Is Seojin AutomotiveLtd (KOSDAQ:122690) Using Debt In A Risky Way?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Seojin Automotive Co.,Ltd. (KOSDAQ:122690) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Seojin AutomotiveLtd

What Is Seojin AutomotiveLtd's Net Debt?

The image below, which you can click on for greater detail, shows that Seojin AutomotiveLtd had debt of ₩304.0b at the end of September 2020, a reduction from ₩368.2b over a year. However, it also had ₩15.7b in cash, and so its net debt is ₩288.3b.

A Look At Seojin AutomotiveLtd's Liabilities

We can see from the most recent balance sheet that Seojin AutomotiveLtd had liabilities of ₩579.0b falling due within a year, and liabilities of ₩110.1b due beyond that. Offsetting these obligations, it had cash of ₩15.7b as well as receivables valued at ₩150.9b due within 12 months. So it has liabilities totalling ₩522.5b more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the ₩56.5b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, Seojin AutomotiveLtd would probably need a major re-capitalization if its creditors were to demand repayment. 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 Seojin AutomotiveLtd will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

In the last year Seojin AutomotiveLtd wasn't profitable at an EBIT level, but managed to grow its revenue by 4.3%, to ₩1.5t. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Over the last twelve months Seojin AutomotiveLtd produced an earnings before interest and tax (EBIT) loss. Indeed, it lost ₩1.9b at the EBIT level. Reflecting on this and the significant total liabilities, it's hard to know what to say about the stock because of our intense dis-affinity for it. Sure, the company might have a nice story about how they are going on to a brighter future. But the reality is that it is low on liquid assets relative to liabilities, and it lost ₩15b in the last year. So we think buying this stock is risky. 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. For instance, we've identified 2 warning signs for Seojin AutomotiveLtd (1 is concerning) you should be aware of.

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.

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