Is S-Oil (KRX:010950) A Risky Investment?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We can see that S-Oil Corporation (KRX:010950) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for S-Oil

What Is S-Oil's Net Debt?

You can click the graphic below for the historical numbers, but it shows that S-Oil had ₩5.81t of debt in December 2020, down from ₩6.38t, one year before. However, it also had ₩1.08t in cash, and so its net debt is ₩4.73t.

A Look At S-Oil's Liabilities

The latest balance sheet data shows that S-Oil had liabilities of ₩6.57t due within a year, and liabilities of ₩3.44t falling due after that. Offsetting this, it had ₩1.08t in cash and ₩1.37t in receivables that were due within 12 months. So its liabilities total ₩7.56t more than the combination of its cash and short-term receivables.

This is a mountain of leverage relative to its market capitalization of ₩11t. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine S-Oil's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

In the last year S-Oil had a loss before interest and tax, and actually shrunk its revenue by 31%, to ₩17t. To be frank that doesn't bode well.

Caveat Emptor

Not only did S-Oil's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping ₩1.1t. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. We would feel better if it turned its trailing twelve month loss of ₩796b into a profit. In the meantime, we consider the stock very risky. 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. Be aware that S-Oil is showing 2 warning signs in our investment analysis , you should know about...

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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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