Is Hanil Forging Industrial (KOSDAQ:024740) Using Too Much Debt?

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Hanil Forging Industrial Co., Ltd. (KOSDAQ:024740) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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.

View our latest analysis for Hanil Forging Industrial

What Is Hanil Forging Industrial's Net Debt?

As you can see below, Hanil Forging Industrial had ₩94.4b of debt, at June 2020, which is about the same as the year before. You can click the chart for greater detail. However, it does have ₩17.3b in cash offsetting this, leading to net debt of about ₩77.1b.

How Healthy Is Hanil Forging Industrial's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Hanil Forging Industrial had liabilities of ₩100.0b due within 12 months and liabilities of ₩18.6b due beyond that. Offsetting these obligations, it had cash of ₩17.3b as well as receivables valued at ₩19.9b due within 12 months. So its liabilities total ₩81.4b more than the combination of its cash and short-term receivables.

When you consider that this deficiency exceeds the company's ₩60.7b market capitalization, you might well be inclined to review the balance sheet intently. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Hanil Forging Industrial 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.

In the last year Hanil Forging Industrial had a loss before interest and tax, and actually shrunk its revenue by 17%, to ₩128b. We would much prefer see growth.

Caveat Emptor

While Hanil Forging Industrial's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at ₩1.1b. Considering that alongside the liabilities mentioned above make us nervous about the company. It would need to improve its operations quickly for us to be interested in it. For example, we would not want to see a repeat of last year's loss of ₩3.5b. In the meantime, we consider the stock to be 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. For example, we've discovered 3 warning signs for Hanil Forging Industrial (1 doesn't sit too well with us!) that you should be aware of before investing here.

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.

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