Value Added Technology (KOSDAQ:043150) Seems To Use Debt Quite Sensibly

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Value Added Technology Co., Ltd. (KOSDAQ:043150) makes use of debt. But is this debt a concern to shareholders?

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. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.

See our latest analysis for Value Added Technology

How Much Debt Does Value Added Technology Carry?

You can click the graphic below for the historical numbers, but it shows that Value Added Technology had ₩27.7b of debt in September 2020, down from ₩31.6b, one year before. But on the other hand it also has ₩75.2b in cash, leading to a ₩47.5b net cash position.

How Strong Is Value Added Technology's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Value Added Technology had liabilities of ₩68.2b due within 12 months and liabilities of ₩45.1b due beyond that. Offsetting this, it had ₩75.2b in cash and ₩45.3b in receivables that were due within 12 months. So it actually has ₩7.11b more liquid assets than total liabilities.

This surplus suggests that Value Added Technology has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Value Added Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Value Added Technology's load is not too heavy, because its EBIT was down 32% over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Value Added Technology can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Value Added Technology has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Value Added Technology recorded free cash flow worth a fulsome 93% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing up

While it is always sensible to investigate a company's debt, in this case Value Added Technology has ₩47.5b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 93% of that EBIT to free cash flow, bringing in ₩35b. So we don't have any problem with Value Added Technology's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 1 warning sign for Value Added Technology that 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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