Is Bonne (KOSDAQ:226340) Using Too Much 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. We note that Bonne Co., Ltd. (KOSDAQ:226340) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Bonne

What Is Bonne's Debt?

As you can see below, at the end of June 2020, Bonne had ₩11.4b of debt, up from ₩882.6m a year ago. Click the image for more detail. But on the other hand it also has ₩30.8b in cash, leading to a ₩19.4b net cash position.

How Healthy Is Bonne's Balance Sheet?

The latest balance sheet data shows that Bonne had liabilities of ₩21.9b due within a year, and liabilities of ₩1.10b falling due after that. On the other hand, it had cash of ₩30.8b and ₩3.61b worth of receivables due within a year. So it actually has ₩11.5b more liquid assets than total liabilities.

It's good to see that Bonne has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Bonne has more cash than debt is arguably a good indication that it can manage its debt safely.

Shareholders should be aware that Bonne's EBIT was down 88% last year. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Bonne will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Bonne 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. In the last three years, Bonne's free cash flow amounted to 24% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Bonne has net cash of ₩19.4b, as well as more liquid assets than liabilities. So although we see some areas for improvement, we're not too worried about Bonne's balance sheet. 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. For instance, we've identified 2 warning signs for Bonne that you should be aware of.

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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