Daelim Industrial (KRX:000210) Has A Pretty Healthy Balance Sheet

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 Daelim Industrial Co., Ltd. (KRX:000210) does use debt in its business. But the real question is whether this debt is making the company risky.

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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Daelim Industrial

What Is Daelim Industrial's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Daelim Industrial had ₩3.08t of debt, an increase on ₩2.39t, over one year. However, it does have ₩2.48t in cash offsetting this, leading to net debt of about ₩606.0b.

How Healthy Is Daelim Industrial's Balance Sheet?

According to the last reported balance sheet, Daelim Industrial had liabilities of ₩3.80t due within 12 months, and liabilities of ₩3.01t due beyond 12 months. Offsetting these obligations, it had cash of ₩2.48t as well as receivables valued at ₩1.47t due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₩2.86t.

This is a mountain of leverage relative to its market capitalization of ₩3.09t. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

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.

Daelim Industrial's net debt is only 0.46 times its EBITDA. And its EBIT covers its interest expense a whopping 20.8 times over. So we're pretty relaxed about its super-conservative use of debt. On top of that, Daelim Industrial grew its EBIT by 56% over the last twelve months, and that growth will make it easier to handle its debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Daelim Industrial's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Daelim Industrial recorded free cash flow worth a fulsome 99% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Our View

Daelim Industrial's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. But truth be told we feel its level of total liabilities does undermine this impression a bit. When we consider the range of factors above, it looks like Daelim Industrial is pretty sensible with its use of debt. That means they are taking on a bit more risk, in the hope of boosting shareholder returns. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Daelim Industrial is showing 3 warning signs in our investment analysis , and 1 of those is a bit unpleasant...

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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