Is Universal Security Instruments (NYSEMKT:UUU) A Risky Investment?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Universal Security Instruments, Inc. (NYSEMKT:UUU) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Universal Security Instruments

What Is Universal Security Instruments's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Universal Security Instruments had US$2.46m of debt in September 2020, down from US$6.69m, one year before. However, because it has a cash reserve of US$146.4k, its net debt is less, at about US$2.32m.

How Strong Is Universal Security Instruments' Balance Sheet?

The latest balance sheet data shows that Universal Security Instruments had liabilities of US$2.45m due within a year, and liabilities of US$1.16m falling due after that. On the other hand, it had cash of US$146.4k and US$4.62m worth of receivables due within a year. So it can boast US$1.16m more liquid assets than total liabilities.

This surplus suggests that Universal Security Instruments has a conservative balance sheet, and could probably eliminate its debt without much difficulty. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Universal Security Instruments will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Universal Security Instruments had a loss before interest and tax, and actually shrunk its revenue by 4.3%, to US$16m. We would much prefer see growth.

Caveat Emptor

Importantly, Universal Security Instruments had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost US$503k at the EBIT level. On a more positive note, the company does have liquid assets, so it has a bit of time to improve its operations before the debt becomes an acute problem. Still, we'd be more encouraged to study the business in depth if it already had some free cash flow. This one is a bit too risky for our liking. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 4 warning signs we've spotted with Universal Security Instruments (including 2 which don't sit too well with us) .

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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