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. We note that Wise Talent Information Technology Co., Ltd (HKG:6100) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
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. Part and parcel of capitalism is the process of ‘creative destruction’ where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well – and to its own advantage. When we think about a company’s use of debt, we first look at cash and debt together.
See our latest analysis for Wise Talent Information Technology
What Is Wise Talent Information Technology’s Debt?
You can click the graphic below for the historical numbers, but it shows that as of December 2019 Wise Talent Information Technology had CN¥59.0m of debt, an increase on none, over one year. But on the other hand it also has CN¥2.59b in cash, leading to a CN¥2.53b net cash position.
How Strong Is Wise Talent Information Technology’s Balance Sheet?
According to the last reported balance sheet, Wise Talent Information Technology had liabilities of CN¥1.02b due within 12 months, and liabilities of CN¥88.7m due beyond 12 months. Offsetting these obligations, it had cash of CN¥2.59b as well as receivables valued at CN¥79.2m due within 12 months. So it actually has CN¥1.56b more liquid assets than total liabilities.
This surplus suggests that Wise Talent Information Technology is using debt in a way that is appears to be both safe and conservative. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Wise Talent Information Technology has more cash than debt is arguably a good indication that it can manage its debt safely.
Although Wise Talent Information Technology made a loss at the EBIT level, last year, it was also good to see that it generated CN¥39m in EBIT over the last twelve months. 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 Wise Talent Information Technology 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.
Finally, a business needs free cash flow to pay off debt; accounting profits just don’t cut it. Wise Talent Information Technology may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last year, Wise Talent Information Technology actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.
While it is always sensible to investigate a company’s debt, in this case Wise Talent Information Technology has CN¥2.53b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 602% of that EBIT to free cash flow, bringing in CN¥233m. So we don’t think Wise Talent Information Technology’s use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 2 warning signs we’ve spotted with Wise Talent Information Technology .
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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