The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. We note that Wireless Telecom Group, Inc. (NYSEMKT:WTT) does have debt on its balance sheet. But is this debt a concern to shareholders?
What Risk Does Debt Bring?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.
How Much Debt Does Wireless Telecom Group Carry?
As you can see below, Wireless Telecom Group had US$2.89m of debt, at June 2019, which is about the same the year before. You can click the chart for greater detail. But it also has US$4.41m in cash to offset that, meaning it has US$1.52m net cash.
How Strong Is Wireless Telecom Group's Balance Sheet?
The latest balance sheet data shows that Wireless Telecom Group had liabilities of US$12.2m due within a year, and liabilities of US$1.94m falling due after that. Offsetting this, it had US$4.41m in cash and US$9.67m in receivables that were due within 12 months. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.
This state of affairs indicates that Wireless Telecom Group's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the US$29.4m company is short on cash, but still worth keeping an eye on the balance sheet. While it does have liabilities worth noting, Wireless Telecom Group also has more cash than debt, so we're pretty confident it can manage its debt safely.
Shareholders should be aware that Wireless Telecom Group's EBIT was down 90% last year. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Wireless Telecom Group 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.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Wireless Telecom Group 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 two years, Wireless Telecom Group recorded free cash flow worth a fulsome 97% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.
While it is always sensible to look at a company's total liabilities, it is very reassuring that Wireless Telecom Group has US$1.5m in net cash. And it impressed us with free cash flow of US$3.2m, being 97% of its EBIT. So we are not troubled with Wireless Telecom Group's debt use. We'd be motivated to research the stock further if we found out that Wireless Telecom Group insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.
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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