These 4 Measures Indicate That Newtree (KOSDAQ:270870) Is Using Debt Safely

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.' 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, Newtree Co., Ltd. (KOSDAQ:270870) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Newtree

What Is Newtree's Debt?

The image below, which you can click on for greater detail, shows that Newtree had debt of ₩5.00b at the end of June 2024, a reduction from ₩12.4b over a year. However, it does have ₩38.3b in cash offsetting this, leading to net cash of ₩33.3b.

A Look At Newtree's Liabilities

We can see from the most recent balance sheet that Newtree had liabilities of ₩13.9b falling due within a year, and liabilities of ₩23.8b due beyond that. Offsetting these obligations, it had cash of ₩38.3b as well as receivables valued at ₩7.58b due within 12 months. So it actually has ₩8.23b more liquid assets than total liabilities.

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

Even more impressive was the fact that Newtree grew its EBIT by 5,265% over twelve months. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is Newtree'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Newtree 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. Looking at the most recent three years, Newtree recorded free cash flow of 47% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to investigate a company's debt, in this case Newtree has ₩33.3b in net cash and a decent-looking balance sheet. And we liked the look of last year's 5,265% year-on-year EBIT growth. So we don't think Newtree's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 3 warning signs for Newtree you should be aware of, and 1 of them can't be ignored.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.