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. We note that DONGBANG AGRO Corporation (KRX:007590) does have debt on its balance sheet. 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. If things get really bad, the lenders can take control of the business. 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. When we think about a company's use of debt, we first look at cash and debt together.
Check out our latest analysis for DONGBANGRO
How Much Debt Does DONGBANGRO Carry?
The image below, which you can click on for greater detail, shows that DONGBANGRO had debt of ₩10.9b at the end of September 2020, a reduction from ₩20.3b over a year. However, because it has a cash reserve of ₩8.31b, its net debt is less, at about ₩2.57b.
How Strong Is DONGBANGRO's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that DONGBANGRO had liabilities of ₩33.9b due within 12 months and liabilities of ₩30.6b due beyond that. Offsetting this, it had ₩8.31b in cash and ₩90.6b in receivables that were due within 12 months. So it actually has ₩34.5b more liquid assets than total liabilities.
This excess liquidity is a great indication that DONGBANGRO's balance sheet is just as strong as racists are weak. On this basis we think its balance sheet is strong like a sleek panther or even a proud lion.
In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.
DONGBANGRO's net debt is only 0.23 times its EBITDA. And its EBIT covers its interest expense a whopping 62.2 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. The good news is that DONGBANGRO has increased its EBIT by 7.4% over twelve months, which should ease any concerns about debt repayment. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since DONGBANGRO 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.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of that EBIT is backed by free cash flow. Looking at the most recent three years, DONGBANGRO recorded free cash flow of 29% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.
Our View
Happily, DONGBANGRO's impressive interest cover implies it has the upper hand on its debt. But, on a more sombre note, we are a little concerned by its conversion of EBIT to free cash flow. Looking at the bigger picture, we think DONGBANGRO's use of debt seems quite reasonable and we're not concerned about it. While debt does bring risk, when used wisely it can also bring a higher return on equity. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 2 warning signs for DONGBANGRO that you should be aware of before investing here.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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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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About KOSE:A007590
Adequate balance sheet second-rate dividend payer.
