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. As with many other companies SAMYOUNG M-Tek Co., Ltd (KOSDAQ:054540) makes use of debt. But the real question is whether this debt is making the company risky.
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
See our latest analysis for SAMYOUNG M-Tek
What Is SAMYOUNG M-Tek's Debt?
The image below, which you can click on for greater detail, shows that SAMYOUNG M-Tek had debt of ₩23.8b at the end of December 2020, a reduction from ₩27.4b over a year. However, its balance sheet shows it holds ₩29.2b in cash, so it actually has ₩5.38b net cash.
How Strong Is SAMYOUNG M-Tek's Balance Sheet?
The latest balance sheet data shows that SAMYOUNG M-Tek had liabilities of ₩31.3b due within a year, and liabilities of ₩1.87b falling due after that. Offsetting these obligations, it had cash of ₩29.2b as well as receivables valued at ₩9.18b due within 12 months. So it actually has ₩5.16b more liquid assets than total liabilities.
This surplus suggests that SAMYOUNG M-Tek is using debt in a way that is appears to be both safe and conservative. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that SAMYOUNG M-Tek has more cash than debt is arguably a good indication that it can manage its debt safely.
It is just as well that SAMYOUNG M-Tek's load is not too heavy, because its EBIT was down 72% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since SAMYOUNG M-Tek 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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. SAMYOUNG M-Tek 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. Over the last three years, SAMYOUNG M-Tek actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.
Summing up
While it is always sensible to investigate a company's debt, in this case SAMYOUNG M-Tek has ₩5.38b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of ₩7.1b, being 367% of its EBIT. So we don't think SAMYOUNG M-Tek's use of debt is risky. 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. We've identified 3 warning signs with SAMYOUNG M-Tek , and understanding them should be part of your investment process.
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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About KOSDAQ:A054540
SAMYOUNG M-Tek
Manufactures and sells industrial materials in South Korea and internationally.
Flawless balance sheet and good value.
