HJ Shipbuilding & Construction (KRX:097230) Seems To Be Using A Lot Of Debt

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 HJ Shipbuilding & Construction Co., Ltd. (KRX:097230) makes use of debt. But is this debt a concern to shareholders?

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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for HJ Shipbuilding & Construction

What Is HJ Shipbuilding & Construction's Debt?

You can click the graphic below for the historical numbers, but it shows that HJ Shipbuilding & Construction had ₩477.2b of debt in September 2024, down from ₩663.1b, one year before. However, it also had ₩232.5b in cash, and so its net debt is ₩244.7b.

How Strong Is HJ Shipbuilding & Construction's Balance Sheet?

According to the last reported balance sheet, HJ Shipbuilding & Construction had liabilities of ₩1.49t due within 12 months, and liabilities of ₩335.9b due beyond 12 months. Offsetting these obligations, it had cash of ₩232.5b as well as receivables valued at ₩135.3b due within 12 months. So it has liabilities totalling ₩1.45t more than its cash and near-term receivables, combined.

This deficit casts a shadow over the ₩335.2b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, HJ Shipbuilding & Construction would probably need a major re-capitalization if its creditors were to demand repayment.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

While we wouldn't worry about HJ Shipbuilding & Construction's net debt to EBITDA ratio of 4.5, we think its super-low interest cover of 0.81 times is a sign of high leverage. In large part that's due to the company's significant depreciation and amortisation charges, which arguably mean its EBITDA is a very generous measure of earnings, and its debt may be more of a burden than it first appears. So shareholders should probably be aware that interest expenses appear to have really impacted the business lately. One redeeming factor for HJ Shipbuilding & Construction is that it turned last year's EBIT loss into a gain of ₩25b, over the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But it is HJ Shipbuilding & Construction's earnings that will influence how the balance sheet holds up in the future. 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. 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, HJ Shipbuilding & Construction saw substantial negative free cash flow, in total. 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 HJ Shipbuilding & Construction'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. Having said that, its ability to grow its EBIT isn't such a worry. Taking into account all the aforementioned factors, it looks like HJ Shipbuilding & Construction has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. 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 3 warning signs for HJ Shipbuilding & Construction (of which 2 shouldn't be ignored!) 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.