Is Hyundai Steel (KRX:004020) Using Debt In A Risky Way?

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.' 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, Hyundai Steel Company (KRX:004020) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Hyundai Steel

What Is Hyundai Steel's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2020 Hyundai Steel had debt of ₩13t, up from ₩12t in one year. However, it also had ₩2.59t in cash, and so its net debt is ₩11t.

How Healthy Is Hyundai Steel's Balance Sheet?

We can see from the most recent balance sheet that Hyundai Steel had liabilities of ₩6.10t falling due within a year, and liabilities of ₩11t due beyond that. Offsetting this, it had ₩2.59t in cash and ₩2.70t in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₩12t.

The deficiency here weighs heavily on the ₩5.77t company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, Hyundai Steel would likely require a major re-capitalisation if it had to pay its creditors today. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Hyundai Steel's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

In the last year Hyundai Steel had a loss before interest and tax, and actually shrunk its revenue by 14%, to ₩18t. We would much prefer see growth.

Caveat Emptor

While Hyundai Steel's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at ₩130b. Considering that alongside the liabilities mentioned above make us nervous about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. It's fair to say the loss of ₩246b didn't encourage us either; we'd like to see a profit. And until that time we think this is a 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. Take risks, for example - Hyundai Steel has 3 warning signs (and 1 which is significant) we think you should know about.

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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