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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. Importantly, TWC Enterprises Limited (TSE:TWC) does carry debt. But is this debt a concern to shareholders?
When Is Debt A Problem?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is TWC Enterprises's Debt?
You can click the graphic below for the historical numbers, but it shows that TWC Enterprises had CA$118.2m of debt in December 2020, down from CA$131.1m, one year before. But on the other hand it also has CA$127.1m in cash, leading to a CA$8.86m net cash position.
How Healthy Is TWC Enterprises' Balance Sheet?
According to the last reported balance sheet, TWC Enterprises had liabilities of CA$64.6m due within 12 months, and liabilities of CA$153.4m due beyond 12 months. On the other hand, it had cash of CA$127.1m and CA$35.6m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$55.4m.
Given TWC Enterprises has a market capitalization of CA$472.1m, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, TWC Enterprises also has more cash than debt, so we're pretty confident it can manage its debt safely.
Even more impressive was the fact that TWC Enterprises grew its EBIT by 109% over twelve months. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is TWC Enterprises's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. While TWC Enterprises 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. In the last three years, TWC Enterprises's free cash flow amounted to 35% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.
Although TWC Enterprises's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CA$8.86m. And it impressed us with its EBIT growth of 109% over the last year. So we don't have any problem with TWC Enterprises's use of debt. 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. For instance, we've identified 2 warning signs for TWC Enterprises that you should be aware of.
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.
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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