Is Hanil Iron & Steel (KRX:002220) Using Too Much Debt?

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.' 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. We note that Hanil Iron & Steel Co., Ltd (KRX:002220) 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?

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. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. 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 Hanil Iron & Steel

What Is Hanil Iron & Steel's Debt?

You can click the graphic below for the historical numbers, but it shows that Hanil Iron & Steel had ₩117.1b of debt in September 2020, down from ₩123.3b, one year before. On the flip side, it has ₩36.0b in cash leading to net debt of about ₩81.1b.

How Strong Is Hanil Iron & Steel's Balance Sheet?

We can see from the most recent balance sheet that Hanil Iron & Steel had liabilities of ₩88.2b falling due within a year, and liabilities of ₩78.8b due beyond that. Offsetting these obligations, it had cash of ₩36.0b as well as receivables valued at ₩26.9b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₩104.0b.

This deficit casts a shadow over the ₩42.3b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Hanil Iron & Steel would probably need a major re-capitalization if its creditors were to demand repayment. 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 Iron & Steel 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.

Over 12 months, Hanil Iron & Steel made a loss at the EBIT level, and saw its revenue drop to ₩160b, which is a fall of 6.4%. We would much prefer see growth.

Caveat Emptor

Over the last twelve months Hanil Iron & Steel produced an earnings before interest and tax (EBIT) loss. Indeed, it lost a very considerable ₩6.0b at the EBIT level. Considering that alongside the liabilities mentioned above make us nervous about the company. It would need to improve its operations quickly for us to be interested in it. For example, we would not want to see a repeat of last year's loss of ₩7.5b. In the meantime, we consider the stock to be risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that Hanil Iron & Steel is showing 3 warning signs in our investment analysis , and 1 of those can't be ignored...

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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