Here's Why Hyung Kuk F&B (KOSDAQ:189980) Has A Meaningful Debt Burden

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Hyung Kuk F&B Co., Ltd. (KOSDAQ:189980) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Hyung Kuk F&B

How Much Debt Does Hyung Kuk F&B Carry?

The image below, which you can click on for greater detail, shows that at September 2020 Hyung Kuk F&B had debt of ₩21.6b, up from ₩19.4b in one year. However, it does have ₩14.8b in cash offsetting this, leading to net debt of about ₩6.81b.

How Strong Is Hyung Kuk F&B's Balance Sheet?

The latest balance sheet data shows that Hyung Kuk F&B had liabilities of ₩26.5b due within a year, and liabilities of ₩2.17b falling due after that. On the other hand, it had cash of ₩14.8b and ₩12.3b worth of receivables due within a year. So its liabilities total ₩1.64b more than the combination of its cash and short-term receivables.

Given Hyung Kuk F&B has a market capitalization of ₩79.5b, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Hyung Kuk F&B has a low net debt to EBITDA ratio of only 0.92. And its EBIT covers its interest expense a whopping 21.5 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. It is just as well that Hyung Kuk F&B's load is not too heavy, because its EBIT was down 53% over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Hyung Kuk F&B 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of that EBIT is backed by free cash flow. Considering the last three years, Hyung Kuk F&B actually recorded a cash outflow, overall. 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.

Our View

Hyung Kuk F&B's EBIT growth rate and conversion of EBIT to free cash flow definitely weigh on it, in our esteem. But its interest cover tells a very different story, and suggests some resilience. Taking the abovementioned factors together we do think Hyung Kuk F&B's debt poses some risks to the business. While that debt can boost returns, we think the company has enough leverage now. 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. Be aware that Hyung Kuk F&B is showing 5 warning signs in our investment analysis , and 1 of those can't be ignored...

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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