Here's Why Finetechnix.Ltd (KOSDAQ:106240) Is Weighed Down By Its Debt Load

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.' 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. As with many other companies Finetechnix. Co.,Ltd. (KOSDAQ:106240) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Finetechnix.Ltd

What Is Finetechnix.Ltd's Debt?

The image below, which you can click on for greater detail, shows that at June 2024 Finetechnix.Ltd had debt of ₩45.0b, up from ₩39.6b in one year. However, it does have ₩3.50b in cash offsetting this, leading to net debt of about ₩41.5b.

How Healthy Is Finetechnix.Ltd's Balance Sheet?

The latest balance sheet data shows that Finetechnix.Ltd had liabilities of ₩58.4b due within a year, and liabilities of ₩11.9b falling due after that. Offsetting these obligations, it had cash of ₩3.50b as well as receivables valued at ₩21.5b due within 12 months. So its liabilities total ₩45.3b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the ₩15.2b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Finetechnix.Ltd would likely require a major re-capitalisation if it had to pay its creditors today.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Weak interest cover of 0.34 times and a disturbingly high net debt to EBITDA ratio of 15.1 hit our confidence in Finetechnix.Ltd like a one-two punch to the gut. The debt burden here is substantial. However, the silver lining was that Finetechnix.Ltd achieved a positive EBIT of ₩971m in the last twelve months, an improvement on the prior year's loss. 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 Finetechnix.Ltd 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. During the last year, Finetechnix.Ltd burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

To be frank both Finetechnix.Ltd's conversion of EBIT to free cash flow and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least its EBIT growth rate is not so bad. We think the chances that Finetechnix.Ltd has too much debt a very significant. To our minds, that means the stock is rather high risk, and probably one to avoid; but to each their own (investing) style. 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 Finetechnix.Ltd is showing 1 warning sign in our investment analysis , you should know about...

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. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.