We Think Daesung Eltec (KOSDAQ:025440) Has A Fair Chunk 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.' 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. Importantly, Daesung Eltec Co., Ltd. (KOSDAQ:025440) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Daesung Eltec

What Is Daesung Eltec's Debt?

The chart below, which you can click on for greater detail, shows that Daesung Eltec had ₩41.5b in debt in September 2020; about the same as the year before. However, it also had ₩1.44b in cash, and so its net debt is ₩40.0b.

A Look At Daesung Eltec's Liabilities

Zooming in on the latest balance sheet data, we can see that Daesung Eltec had liabilities of ₩48.1b due within 12 months and liabilities of ₩26.1b due beyond that. Offsetting these obligations, it had cash of ₩1.44b as well as receivables valued at ₩23.2b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₩49.6b.

While this might seem like a lot, it is not so bad since Daesung Eltec has a market capitalization of ₩126.0b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Daesung Eltec 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.

Over 12 months, Daesung Eltec made a loss at the EBIT level, and saw its revenue drop to ₩299b, which is a fall of 24%. That makes us nervous, to say the least.

Caveat Emptor

While Daesung Eltec's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at ₩3.7b. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. For example, we would not want to see a repeat of last year's loss of ₩6.7b. So we do think this stock is quite risky. 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. Case in point: We've spotted 2 warning signs for Daesung Eltec you should be aware of, and 1 of them is a bit unpleasant.

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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