Here's Why HLB Power (KOSDAQ:043220) Can Manage Its Debt Responsibly

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.' 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 HLB Power Co., Ltd. (KOSDAQ:043220) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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.

See our latest analysis for HLB Power

What Is HLB Power's Net Debt?

The image below, which you can click on for greater detail, shows that HLB Power had debt of ₩7.96b at the end of December 2020, a reduction from ₩16.1b over a year. However, its balance sheet shows it holds ₩17.7b in cash, so it actually has ₩9.73b net cash.

A Look At HLB Power's Liabilities

According to the last reported balance sheet, HLB Power had liabilities of ₩11.8b due within 12 months, and liabilities of ₩9.95b due beyond 12 months. Offsetting this, it had ₩17.7b in cash and ₩5.68b in receivables that were due within 12 months. So it actually has ₩1.65b more liquid assets than total liabilities.

Having regard to HLB Power's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the ₩95.7b company is struggling for cash, we still think it's worth monitoring its balance sheet. Succinctly put, HLB Power boasts net cash, so it's fair to say it does not have a heavy debt load!

The bad news is that HLB Power saw its EBIT decline by 14% over the last year. If earnings continue to decline at that rate then handling the debt will be more difficult than taking three children under 5 to a fancy pants restaurant. The balance sheet is clearly the area to focus on when you are analysing debt. But it is HLB Power's earnings that will influence how the balance sheet holds up in the future. 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While HLB Power has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, HLB Power actually produced more free cash flow than EBIT over the last two years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that HLB Power has net cash of ₩9.73b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of ₩6.7b, being 239% of its EBIT. So we don't have any problem with HLB Power's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that HLB Power is showing 2 warning signs in our investment analysis , you should know about...

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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