These 4 Measures Indicate That GS Retail (KRX:007070) Is Using Debt Extensively

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 GS Retail Co., Ltd. (KRX:007070) does have debt on its balance sheet. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for GS Retail

What Is GS Retail's Debt?

You can click the graphic below for the historical numbers, but it shows that GS Retail had ₩971.1b of debt in March 2024, down from ₩1.25t, one year before. However, it also had ₩377.1b in cash, and so its net debt is ₩593.9b.

A Look At GS Retail's Liabilities

The latest balance sheet data shows that GS Retail had liabilities of ₩2.47t due within a year, and liabilities of ₩3.03t falling due after that. Offsetting these obligations, it had cash of ₩377.1b as well as receivables valued at ₩715.4b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₩4.41t.

The deficiency here weighs heavily on the ₩2.16t company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, GS Retail would likely require a major re-capitalisation if it had to pay its creditors today.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

With net debt sitting at just 0.52 times EBITDA, GS Retail is arguably pretty conservatively geared. And this view is supported by the solid interest coverage, with EBIT coming in at 7.9 times the interest expense over the last year. While GS Retail doesn't seem to have gained much on the EBIT line, at least earnings remain stable for now. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if GS Retail can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, GS Retail generated free cash flow amounting to a very robust 85% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Our View

Neither GS Retail's ability to handle its total liabilities nor its EBIT growth rate gave us confidence in its ability to take on more debt. But its conversion of EBIT to free cash flow tells a very different story, and suggests some resilience. We think that GS Retail's debt does make it a bit risky, after considering the aforementioned data points together. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 3 warning signs for GS Retail you should be aware of.

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.