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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. We note that Tai Sin Electric Limited (SGX:500) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
When Is Debt Dangerous?
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. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
See our latest analysis for Tai Sin Electric
How Much Debt Does Tai Sin Electric Carry?
The image below, which you can click on for greater detail, shows that Tai Sin Electric had debt of S$18.4m at the end of March 2019, a reduction from S$23.6m over a year. However, it does have S$16.8m in cash offsetting this, leading to net debt of about S$1.55m.
How Strong Is Tai Sin Electric's Balance Sheet?
The latest balance sheet data shows that Tai Sin Electric had liabilities of S$51.7m due within a year, and liabilities of S$2.31m falling due after that. Offsetting this, it had S$16.8m in cash and S$90.7m in receivables that were due within 12 months. So it can boast S$53.5m more liquid assets than total liabilities.
This surplus liquidity suggests that Tai Sin Electric's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this basis we think its balance sheet is strong like a sleek panther or even a proud lion. Carrying virtually no net debt, Tai Sin Electric has a very light debt load indeed.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).