Interojo (KOSDAQ:119610) Seems To Use Debt Quite Sensibly

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 Interojo Inc. (KOSDAQ:119610) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Interojo

What Is Interojo's Debt?

The image below, which you can click on for greater detail, shows that at September 2020 Interojo had debt of ₩25.5b, up from ₩16.5b in one year. However, it also had ₩25.1b in cash, and so its net debt is ₩394.2m.

A Look At Interojo's Liabilities

Zooming in on the latest balance sheet data, we can see that Interojo had liabilities of ₩50.9b due within 12 months and liabilities of ₩2.88b due beyond that. On the other hand, it had cash of ₩25.1b and ₩47.2b worth of receivables due within a year. So it can boast ₩18.6b more liquid assets than total liabilities.

This surplus suggests that Interojo has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Carrying virtually no net debt, Interojo has a very light debt load indeed.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Interojo has very little debt (net of cash), and boasts a debt to EBITDA ratio of 0.014 and EBIT of 39.3 times the interest expense. Indeed relative to its earnings its debt load seems light as a feather. The good news is that Interojo has increased its EBIT by 8.5% over twelve months, which should ease any concerns about debt repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Interojo's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Interojo recorded negative free cash flow, in total. 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

Happily, Interojo's impressive interest cover implies it has the upper hand on its debt. But we must concede we find its conversion of EBIT to free cash flow has the opposite effect. It's also worth noting that Interojo 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 Interojo takes a pretty sensible approach to debt. While that brings some risk, it can also enhance returns for shareholders. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 1 warning sign we've spotted with Interojo .

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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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