Is Choil Aluminum (KRX:018470) Using Debt In A Risky Way?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. As with many other companies Choil Aluminum Co., Ltd. (KRX:018470) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Choil Aluminum

What Is Choil Aluminum's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Choil Aluminum had ₩148.9b of debt, an increase on ₩142.3b, over one year. On the flip side, it has ₩27.4b in cash leading to net debt of about ₩121.4b.

A Look At Choil Aluminum's Liabilities

According to the last reported balance sheet, Choil Aluminum had liabilities of ₩143.3b due within 12 months, and liabilities of ₩29.9b due beyond 12 months. On the other hand, it had cash of ₩27.4b and ₩60.7b worth of receivables due within a year. So it has liabilities totalling ₩85.1b more than its cash and near-term receivables, combined.

When you consider that this deficiency exceeds the company's ₩57.2b market capitalization, you might well be inclined to review the balance sheet intently. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Choil Aluminum's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Choil Aluminum reported revenue of ₩326b, which is a gain of 4.3%, although it did not report any earnings before interest and tax. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Importantly, Choil Aluminum had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost a very considerable ₩8.6b 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. Not least because it burned through ₩9.8b in negative free cash flow over the last year. That means it's on the risky side of things. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 3 warning signs for Choil Aluminum (1 doesn't sit too well with us!) 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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