David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 SL Corporation (KRX:005850) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?
Why Does Debt Bring Risk?
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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.
Check out our latest analysis for SL
What Is SL's Net Debt?
As you can see below, at the end of September 2020, SL had ₩329.8b of debt, up from ₩277.4b a year ago. Click the image for more detail. However, its balance sheet shows it holds ₩335.6b in cash, so it actually has ₩5.84b net cash.
How Strong Is SL's Balance Sheet?
The latest balance sheet data shows that SL had liabilities of ₩812.1b due within a year, and liabilities of ₩173.1b falling due after that. Offsetting this, it had ₩335.6b in cash and ₩607.9b in receivables that were due within 12 months. So it has liabilities totalling ₩41.6b more than its cash and near-term receivables, combined.
Since publicly traded SL shares are worth a total of ₩769.3b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, SL boasts net cash, so it's fair to say it does not have a heavy debt load!
Even more impressive was the fact that SL grew its EBIT by 411% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if SL 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. SL 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. During the last three years, SL burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.
Summing up
We could understand if investors are concerned about SL's liabilities, but we can be reassured by the fact it has has net cash of ₩5.84b. And we liked the look of last year's 411% year-on-year EBIT growth. So we are not troubled with SL's debt use. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 2 warning signs for SL 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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This article by Simply Wall St is general in nature. 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.
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About KOSE:A005850
SL
Manufactures and sells automotive parts in South Korea, North America, China, India, Europe, South America, and internationally.
Very undervalued with flawless balance sheet.
