Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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 can see that Shinyoungwacoal,Inc. (KRX:005800) does use debt in its business. But should shareholders be worried about its use of debt?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
Check out our latest analysis for ShinyoungwacoalInc
What Is ShinyoungwacoalInc's Debt?
The image below, which you can click on for greater detail, shows that at December 2020 ShinyoungwacoalInc had debt of ₩20.2b, up from ₩303.3m in one year. But it also has ₩108.1b in cash to offset that, meaning it has ₩87.9b net cash.
How Strong Is ShinyoungwacoalInc's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that ShinyoungwacoalInc had liabilities of ₩45.5b due within 12 months and liabilities of ₩10.7b due beyond that. On the other hand, it had cash of ₩108.1b and ₩11.6b worth of receivables due within a year. So it actually has ₩63.4b more liquid assets than total liabilities.
This surplus liquidity suggests that ShinyoungwacoalInc's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Simply put, the fact that ShinyoungwacoalInc has more cash than debt is arguably a good indication that it can manage its debt safely.
Even more impressive was the fact that ShinyoungwacoalInc grew its EBIT by 114% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since ShinyoungwacoalInc 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.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. ShinyoungwacoalInc 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, ShinyoungwacoalInc actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.
Summing up
While we empathize with investors who find debt concerning, you should keep in mind that ShinyoungwacoalInc has net cash of ₩87.9b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of ₩7.9b, being 852% of its EBIT. The bottom line is that ShinyoungwacoalInc's use of debt is absolutely fine. 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. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for ShinyoungwacoalInc (of which 1 makes us a bit uncomfortable!) 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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About KOSE:A005800
ShinyoungwacoalInc
Produces and sells foundation products and lingerie for women in South Korea.
Flawless balance sheet second-rate dividend payer.