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Oct 16, 2024

Here's Why Ta Chen Stainless Pipe (TWSE:2027) Has A Meaningful Debt Burden - Simply Wall St News

Stock Analysis 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

Stock Analysis

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 can see that Ta Chen Stainless Pipe Co., Ltd. (TWSE:2027) does use debt in its business. But the real question is whether this debt is making the company risky.

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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Ta Chen Stainless Pipe

The image below, which you can click on for greater detail, shows that Ta Chen Stainless Pipe had debt of NT$38.5b at the end of June 2024, a reduction from NT$49.2b over a year. However, it also had NT$12.5b in cash, and so its net debt is NT$26.0b.

The latest balance sheet data shows that Ta Chen Stainless Pipe had liabilities of NT$28.5b due within a year, and liabilities of NT$32.5b falling due after that. Offsetting these obligations, it had cash of NT$12.5b as well as receivables valued at NT$11.1b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by NT$37.3b.

While this might seem like a lot, it is not so bad since Ta Chen Stainless Pipe has a market capitalization of NT$71.1b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Ta Chen Stainless Pipe has a debt to EBITDA ratio of 3.3, which signals significant debt, but is still pretty reasonable for most types of business. However, its interest coverage of 10.3 is very high, suggesting that the interest expense on the debt is currently quite low. Shareholders should be aware that Ta Chen Stainless Pipe's EBIT was down 40% last year. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Ta Chen Stainless Pipe 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the most recent three years, Ta Chen Stainless Pipe recorded free cash flow worth 74% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Ta Chen Stainless Pipe's struggle to grow its EBIT had us second guessing its balance sheet strength, but the other data-points we considered were relatively redeeming. In particular, its conversion of EBIT to free cash flow was re-invigorating. We think that Ta Chen Stainless Pipe's debt does make it a bit risky, after considering the aforementioned data points together. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Ta Chen Stainless Pipe is showing 1 warning sign in our investment analysis , you should know about...

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

Discover if Ta Chen Stainless Pipe might be undervalued or overvalued with our detailed analysis, featuring fair value estimates, potential risks, dividends, insider trades, and its financial condition.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.

Manufactures, processes, and sells stainless steel pipes, plates, and fittings, and venetian blinds in Taiwan, the United States, China, and internationally.