These 4 Measures Indicate That Duksung (KRX:004830) Is Using Debt Reasonably Well

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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Duksung Co., Ltd. (KRX:004830) does carry 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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Duksung

How Much Debt Does Duksung Carry?

The image below, which you can click on for greater detail, shows that at September 2020 Duksung had debt of ₩31.6b, up from ₩27.9b in one year. However, it also had ₩26.2b in cash, and so its net debt is ₩5.42b.

A Look At Duksung's Liabilities

According to the last reported balance sheet, Duksung had liabilities of ₩44.1b due within 12 months, and liabilities of ₩5.23b due beyond 12 months. On the other hand, it had cash of ₩26.2b and ₩24.8b worth of receivables due within a year. So it actually has ₩1.67b more liquid assets than total liabilities.

This state of affairs indicates that Duksung's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the ₩157.7b company is struggling for cash, we still think it's worth monitoring its balance sheet.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Duksung's net debt is only 0.57 times its EBITDA. And its EBIT covers its interest expense a whopping 49.4 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Although Duksung made a loss at the EBIT level, last year, it was also good to see that it generated ₩5.6b 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 Duksung's earnings that will influence how the balance sheet holds up in the future. 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.

Finally, while the tax-man may adore accounting profits, lenders only accept 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. During the last year, Duksung produced sturdy free cash flow equating to 75% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

Duksung's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. And that's just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. Looking at the bigger picture, we think Duksung's use of debt seems quite reasonable and we're not concerned about it. After all, sensible leverage can boost returns on equity. 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. Take risks, for example - Duksung has 3 warning signs (and 2 which are concerning) we think you should know about.

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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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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