David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that China Wafer Level CSP Co., Ltd. (SHSE:603005) does have debt on its balance sheet. But is this debt a concern to shareholders?
Why Does Debt Bring Risk?
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
How Much Debt Does China Wafer Level CSP Carry?
You can click the graphic below for the historical numbers, but it shows that as of September 2023 China Wafer Level CSP had CN¥413.3m of debt, an increase on CN¥10.8m, over one year. But it also has CN¥2.60b in cash to offset that, meaning it has CN¥2.19b net cash.
How Healthy Is China Wafer Level CSP's Balance Sheet?
According to the last reported balance sheet, China Wafer Level CSP had liabilities of CN¥654.5m due within 12 months, and liabilities of CN¥126.7m due beyond 12 months. Offsetting these obligations, it had cash of CN¥2.60b as well as receivables valued at CN¥111.5m due within 12 months. So it can boast CN¥1.93b more liquid assets than total liabilities.
This excess liquidity suggests that China Wafer Level CSP is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, China Wafer Level CSP boasts net cash, so it's fair to say it does not have a heavy debt load!
In fact China Wafer Level CSP's saving grace is its low debt levels, because its EBIT has tanked 92% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if China Wafer Level CSP can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While China Wafer Level CSP has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, China Wafer Level CSP recorded free cash flow worth a fulsome 92% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.
Summing Up
While it is always sensible to investigate a company's debt, in this case China Wafer Level CSP has CN¥2.19b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥159m, being 92% of its EBIT. So we don't think China Wafer Level CSP's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with China Wafer Level CSP , and understanding them should be part of your investment process.
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.