Is Moorim SP (KOSDAQ:001810) Using Too Much Debt?

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Moorim SP Co., Ltd. (KOSDAQ:001810) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Moorim SP

What Is Moorim SP's Net Debt?

The chart below, which you can click on for greater detail, shows that Moorim SP had ₩45.9b in debt in September 2020; about the same as the year before. On the flip side, it has ₩35.0b in cash leading to net debt of about ₩11.0b.

How Healthy Is Moorim SP's Balance Sheet?

We can see from the most recent balance sheet that Moorim SP had liabilities of ₩35.8b falling due within a year, and liabilities of ₩55.2b due beyond that. Offsetting these obligations, it had cash of ₩35.0b as well as receivables valued at ₩20.8b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₩35.2b.

While this might seem like a lot, it is not so bad since Moorim SP has a market capitalization of ₩85.5b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

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.

While Moorim SP's low debt to EBITDA ratio of 1.2 suggests only modest use of debt, the fact that EBIT only covered the interest expense by 6.9 times last year does give us pause. So we'd recommend keeping a close eye on the impact financing costs are having on the business. Although Moorim SP made a loss at the EBIT level, last year, it was also good to see that it generated ₩6.1b in EBIT over the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Moorim SP'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Happily for any shareholders, Moorim SP actually produced more free cash flow than EBIT over the last year. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

The good news is that Moorim SP's demonstrated ability to convert EBIT to free cash flow delights us like a fluffy puppy does a toddler. And its net debt to EBITDA is good too. Looking at all the aforementioned factors together, it strikes us that Moorim SP can handle its debt fairly comfortably. On the plus side, this leverage can boost shareholder returns, but the potential downside is more risk of loss, so it's worth monitoring the balance sheet. 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. For example, we've discovered 3 warning signs for Moorim SP that you should be aware of before investing here.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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