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. It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies World Precision Machinery Limited (SGX:B49) makes use of debt. But is this debt a concern to shareholders?
When Is Debt A Problem?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.
What Is World Precision Machinery's Net Debt?
The image below, which you can click on for greater detail, shows that World Precision Machinery had debt of CN¥47.6m at the end of June 2019, a reduction from CN¥54.3m over a year. However, it does have CN¥24.8m in cash offsetting this, leading to net debt of about CN¥22.8m.
A Look At World Precision Machinery's Liabilities
Zooming in on the latest balance sheet data, we can see that World Precision Machinery had liabilities of CN¥505.2m due within 12 months and liabilities of CN¥8.73m due beyond that. Offsetting this, it had CN¥24.8m in cash and CN¥177.7m in receivables that were due within 12 months. So its liabilities total CN¥311.4m more than the combination of its cash and short-term receivables.
This is a mountain of leverage relative to its market capitalization of CN¥432.3m. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. 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 World Precision Machinery 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.
Over 12 months, World Precision Machinery saw its revenue hold pretty steady, and it did not report positive earnings before interest and tax. While that hardly impresses, its not too bad either.
Over the last twelve months World Precision Machinery produced an earnings before interest and tax (EBIT) loss. Indeed, it lost CN¥12m at the EBIT level. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. For example, we would not want to see a repeat of last year's loss of CN¥847k. So to be blunt we do think it is risky. For riskier companies like World Precision Machinery I always like to keep an eye on the long term profit and revenue trends. Fortunately, you can click to see our interactive graph of its profit, revenue, and operating cashflow.
Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.