Is Hanil Chemical Ind (KOSDAQ:007770) Using Too Much Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Hanil Chemical Ind. Co., Ltd. (KOSDAQ:007770) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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.

View our latest analysis for Hanil Chemical Ind

What Is Hanil Chemical Ind's Debt?

The image below, which you can click on for greater detail, shows that at December 2020 Hanil Chemical Ind had debt of ₩34.9b, up from ₩11.7b in one year. However, it also had ₩13.2b in cash, and so its net debt is ₩21.7b.

A Look At Hanil Chemical Ind's Liabilities

We can see from the most recent balance sheet that Hanil Chemical Ind had liabilities of ₩13.2b falling due within a year, and liabilities of ₩38.2b due beyond that. Offsetting these obligations, it had cash of ₩13.2b as well as receivables valued at ₩16.9b due within 12 months. So its liabilities total ₩21.4b more than the combination of its cash and short-term receivables.

Hanil Chemical Ind has a market capitalization of ₩70.2b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Hanil Chemical Ind 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.

In the last year Hanil Chemical Ind had a loss before interest and tax, and actually shrunk its revenue by 20%, to ₩87b. That makes us nervous, to say the least.

Caveat Emptor

Not only did Hanil Chemical Ind's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost ₩552m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through ₩25b of cash over the last year. So in short it's a really risky stock. 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. To that end, you should learn about the 4 warning signs we've spotted with Hanil Chemical Ind (including 1 which is significant) .

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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