Is SEWONCELLONTECH (KRX:091090) A Risky Investment?

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, SEWONCELLONTECH Co., Ltd. (KRX:091090) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for SEWONCELLONTECH

What Is SEWONCELLONTECH's Debt?

As you can see below, SEWONCELLONTECH had ₩111.7b of debt, at September 2020, which is about the same as the year before. You can click the chart for greater detail. However, it also had ₩13.2b in cash, and so its net debt is ₩98.5b.

A Look At SEWONCELLONTECH's Liabilities

The latest balance sheet data shows that SEWONCELLONTECH had liabilities of ₩134.7b due within a year, and liabilities of ₩33.6b falling due after that. Offsetting these obligations, it had cash of ₩13.2b as well as receivables valued at ₩26.9b due within 12 months. So its liabilities total ₩128.2b more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since SEWONCELLONTECH has a market capitalization of ₩213.7b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Weak interest cover of 0.42 times and a disturbingly high net debt to EBITDA ratio of 13.7 hit our confidence in SEWONCELLONTECH like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. One redeeming factor for SEWONCELLONTECH is that it turned last year's EBIT loss into a gain of ₩2.9b, over the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since SEWONCELLONTECH will need earnings to service that debt. 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. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Over the last year, SEWONCELLONTECH saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

On the face of it, SEWONCELLONTECH's interest cover left us tentative about the stock, and its conversion of EBIT to free cash flow was no more enticing than the one empty restaurant on the busiest night of the year. Having said that, its ability to grow its EBIT isn't such a worry. Overall, it seems to us that SEWONCELLONTECH's balance sheet is really quite a risk to the business. So we're almost as wary of this stock as a hungry kitten is about falling into its owner's fish pond: once bitten, twice shy, as they say. 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. For example, we've discovered 2 warning signs for SEWONCELLONTECH (1 shouldn't be ignored!) that you should be aware of before investing here.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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This article by Simply Wall St is general in nature. 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.
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