Hyundai Elevator (KRX:017800) Takes On Some Risk With Its Use Of Debt

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 Hyundai Elevator Co., Ltd (KRX:017800) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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 think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Hyundai Elevator

How Much Debt Does Hyundai Elevator Carry?

The image below, which you can click on for greater detail, shows that at September 2024 Hyundai Elevator had debt of ₩932.3b, up from ₩822.5b in one year. However, because it has a cash reserve of ₩512.8b, its net debt is less, at about ₩419.5b.

How Healthy Is Hyundai Elevator's Balance Sheet?

The latest balance sheet data shows that Hyundai Elevator had liabilities of ₩1.45t due within a year, and liabilities of ₩657.9b falling due after that. Offsetting this, it had ₩512.8b in cash and ₩282.5b in receivables that were due within 12 months. So its liabilities total ₩1.31t more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of ₩1.81t, so it does suggest shareholders should keep an eye on Hyundai Elevator's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Hyundai Elevator's net debt is sitting at a very reasonable 2.1 times its EBITDA, while its EBIT covered its interest expense just 4.1 times last year. While that doesn't worry us too much, it does suggest the interest payments are somewhat of a burden. Also relevant is that Hyundai Elevator has grown its EBIT by a very respectable 25% in the last year, thus enhancing its ability to pay down debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is Hyundai Elevator's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Hyundai Elevator burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

Hyundai Elevator's conversion of EBIT to free cash flow was a real negative on this analysis, although the other factors we considered cast it in a significantly better light. For example its EBIT growth rate was refreshing. When we consider all the factors discussed, it seems to us that Hyundai Elevator is taking some risks with its use of debt. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Hyundai Elevator (of which 1 is a bit concerning!) you should know about.

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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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.