Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 Tecom Co., Ltd. (TWSE:2321) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?
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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.
View our latest analysis for Tecom
The image below, which you can click on for greater detail, shows that Tecom had debt of NT$514.0m at the end of June 2024, a reduction from NT$698.0m over a year. However, because it has a cash reserve of NT$418.4m, its net debt is less, at about NT$95.6m.
The latest balance sheet data shows that Tecom had liabilities of NT$699.3m due within a year, and liabilities of NT$218.9m falling due after that. Offsetting these obligations, it had cash of NT$418.4m as well as receivables valued at NT$146.8m due within 12 months. So it has liabilities totalling NT$353.0m more than its cash and near-term receivables, combined.
This deficit casts a shadow over the NT$195.7m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Tecom would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But it is Tecom's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Over 12 months, Tecom made a loss at the EBIT level, and saw its revenue drop to NT$756m, which is a fall of 12%. We would much prefer see growth.
While Tecom's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost NT$15m at the EBIT level. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. For example, we would not want to see a repeat of last year's loss of NT$23m. And until that time we think this is a risky stock. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 2 warning signs for Tecom (1 shouldn't be ignored!) that you should be aware of before investing here.
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.
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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.