We Think Ilshin Spinning (KRX:003200) Can Stay On Top Of Its 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. We note that Ilshin Spinning Co., Ltd (KRX:003200) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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.

See our latest analysis for Ilshin Spinning

What Is Ilshin Spinning's Debt?

The image below, which you can click on for greater detail, shows that Ilshin Spinning had debt of ₩101.1b at the end of September 2020, a reduction from ₩116.7b over a year. But it also has ₩175.3b in cash to offset that, meaning it has ₩74.2b net cash.

A Look At Ilshin Spinning's Liabilities

The latest balance sheet data shows that Ilshin Spinning had liabilities of ₩176.8b due within a year, and liabilities of ₩67.3b falling due after that. Offsetting these obligations, it had cash of ₩175.3b as well as receivables valued at ₩58.7b due within 12 months. So its liabilities total ₩10.2b more than the combination of its cash and short-term receivables.

Since publicly traded Ilshin Spinning shares are worth a total of ₩191.1b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, Ilshin Spinning boasts net cash, so it's fair to say it does not have a heavy debt load!

But the other side of the story is that Ilshin Spinning saw its EBIT decline by 6.8% over the last year. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. When analysing debt levels, the balance sheet is the obvious place to start. But it is Ilshin Spinning'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Ilshin Spinning may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Ilshin Spinning recorded negative free cash flow, in total. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Summing up

We could understand if investors are concerned about Ilshin Spinning's liabilities, but we can be reassured by the fact it has has net cash of ₩74.2b. So we don't have any problem with Ilshin Spinning's use of debt. 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 instance, we've identified 4 warning signs for Ilshin Spinning (1 is a bit unpleasant) you should be aware of.

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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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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