Is Advanced Nano Products (KOSDAQ:121600) Using Too Much Debt?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. As with many other companies Advanced Nano Products Co., Ltd. (KOSDAQ:121600) makes use of debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Advanced Nano Products

What Is Advanced Nano Products's Net Debt?

The image below, which you can click on for greater detail, shows that at December 2020 Advanced Nano Products had debt of ₩7.20b, up from ₩1.20b in one year. But on the other hand it also has ₩24.6b in cash, leading to a ₩17.4b net cash position.

How Strong Is Advanced Nano Products' Balance Sheet?

According to the last reported balance sheet, Advanced Nano Products had liabilities of ₩9.15b due within 12 months, and liabilities of ₩5.33b due beyond 12 months. Offsetting these obligations, it had cash of ₩24.6b as well as receivables valued at ₩11.5b due within 12 months. So it actually has ₩21.7b more liquid assets than total liabilities.

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

The modesty of its debt load may become crucial for Advanced Nano Products if management cannot prevent a repeat of the 71% cut to EBIT over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Advanced Nano Products will need earnings to service that debt. 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. While Advanced Nano Products 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, Advanced Nano Products created free cash flow amounting to 18% of its EBIT, an uninspiring performance. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Advanced Nano Products has net cash of ₩17.4b, as well as more liquid assets than liabilities. So we don't have any problem with Advanced Nano Products's use of debt. 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 example Advanced Nano Products has 4 warning signs (and 1 which can't be ignored) we think you should know about.

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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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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