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.' 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 can see that ISU Chemical Co., Ltd (KRX:005950) does use debt in its business. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.
What Is ISU Chemical's Net Debt?
You can click the graphic below for the historical numbers, but it shows that as of December 2020 ISU Chemical had ₩456.9b of debt, an increase on ₩434.9b, over one year. However, it does have ₩196.8b in cash offsetting this, leading to net debt of about ₩260.1b.
How Strong Is ISU Chemical's Balance Sheet?
We can see from the most recent balance sheet that ISU Chemical had liabilities of ₩504.5b falling due within a year, and liabilities of ₩175.2b due beyond that. Offsetting this, it had ₩196.8b in cash and ₩198.8b in receivables that were due within 12 months. So its liabilities total ₩284.0b more than the combination of its cash and short-term receivables.
This deficit is considerable relative to its market capitalization of ₩286.7b, so it does suggest shareholders should keep an eye on ISU Chemical's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since ISU Chemical 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.
Over 12 months, ISU Chemical made a loss at the EBIT level, and saw its revenue drop to ₩1.3t, which is a fall of 13%. We would much prefer see growth.
While ISU Chemical's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable ₩49b at the EBIT level. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. We would feel better if it turned its trailing twelve month loss of ₩88b into a profit. In the meantime, we consider the stock very 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. For example ISU Chemical has 4 warning signs (and 2 which are a bit 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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ISU Chemical Co., Ltd. produces and sells petrochemicals and fine chemicals primarily in South Korea.
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Good value with adequate balance sheet.
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