Is CTK Cosmetics (KOSDAQ:260930) A Risky Investment?

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 CTK Cosmetics Co., Ltd (KOSDAQ:260930) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for CTK Cosmetics

What Is CTK Cosmetics's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 CTK Cosmetics had ₩3.99b of debt, an increase on ₩3.50b, over one year. But on the other hand it also has ₩56.2b in cash, leading to a ₩52.2b net cash position.

How Healthy Is CTK Cosmetics' Balance Sheet?

The latest balance sheet data shows that CTK Cosmetics had liabilities of ₩29.1b due within a year, and liabilities of ₩6.77b falling due after that. Offsetting this, it had ₩56.2b in cash and ₩34.4b in receivables that were due within 12 months. So it can boast ₩54.7b more liquid assets than total liabilities.

It's good to see that CTK Cosmetics has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that CTK Cosmetics has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact CTK Cosmetics's saving grace is its low debt levels, because its EBIT has tanked 86% in the last twelve months. 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 it is CTK Cosmetics's earnings that will influence how the balance sheet holds up in the future. 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. CTK Cosmetics may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, CTK Cosmetics burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing up

While it is always sensible to investigate a company's debt, in this case CTK Cosmetics has ₩52.2b in net cash and a decent-looking balance sheet. So we don't have any problem with CTK Cosmetics's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Be aware that CTK Cosmetics is showing 3 warning signs in our investment analysis , and 1 of those is potentially serious...

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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