We Think MEKICS (KOSDAQ:058110) Can Stay On Top Of Its Debt

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. Importantly, MEKICS CO., Ltd (KOSDAQ:058110) does carry debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. 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 MEKICS

How Much Debt Does MEKICS Carry?

You can click the graphic below for the historical numbers, but it shows that MEKICS had ₩12.0b of debt in September 2020, down from ₩16.8b, one year before. However, it also had ₩10.7b in cash, and so its net debt is ₩1.33b.

How Healthy Is MEKICS's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that MEKICS had liabilities of ₩24.9b due within 12 months and liabilities of ₩9.82b due beyond that. On the other hand, it had cash of ₩10.7b and ₩6.65b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₩17.4b.

Given MEKICS has a market capitalization of ₩242.0b, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Carrying virtually no net debt, MEKICS has a very light debt load indeed.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

With debt at a measly 0.053 times EBITDA and EBIT covering interest a whopping 24.5 times, it's clear that MEKICS is not a desperate borrower. So relative to past earnings, the debt load seems trivial. Although MEKICS made a loss at the EBIT level, last year, it was also good to see that it generated ₩23b in EBIT over the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine MEKICS'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.

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 the earnings before interest and tax (EBIT) is backed by free cash flow. In the last year, MEKICS's free cash flow amounted to 35% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

Happily, MEKICS's impressive interest cover implies it has the upper hand on its debt. But, on a more sombre note, we are a little concerned by its conversion of EBIT to free cash flow. It's also worth noting that MEKICS is in the Medical Equipment industry, which is often considered to be quite defensive. Taking all this data into account, it seems to us that MEKICS takes a pretty sensible approach to debt. While that brings some risk, it can also enhance returns for shareholders. 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. Like risks, for instance. Every company has them, and we've spotted 3 warning signs for MEKICS (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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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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