KPX ChemicalLtd (KRX:025000) Could Easily Take On More Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that KPX Chemical Co.,Ltd. (KRX:025000) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for KPX ChemicalLtd

What Is KPX ChemicalLtd's Debt?

You can click the graphic below for the historical numbers, but it shows that KPX ChemicalLtd had ₩10.7b of debt in September 2020, down from ₩16.2b, one year before. However, its balance sheet shows it holds ₩139.9b in cash, so it actually has ₩129.2b net cash.

How Healthy Is KPX ChemicalLtd's Balance Sheet?

According to the last reported balance sheet, KPX ChemicalLtd had liabilities of ₩86.8b due within 12 months, and liabilities of ₩15.6b due beyond 12 months. Offsetting these obligations, it had cash of ₩139.9b as well as receivables valued at ₩116.2b due within 12 months. So it actually has ₩153.6b more liquid assets than total liabilities.

This surplus strongly suggests that KPX ChemicalLtd has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that KPX ChemicalLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

Also positive, KPX ChemicalLtd grew its EBIT by 23% in the last year, and that should make it easier to pay down debt, going forward. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since KPX ChemicalLtd 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. KPX ChemicalLtd may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, KPX ChemicalLtd generated free cash flow amounting to a very robust 95% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that KPX ChemicalLtd has net cash of ₩129.2b, as well as more liquid assets than liabilities. The cherry on top was that in converted 95% of that EBIT to free cash flow, bringing in ₩52b. The bottom line is that KPX ChemicalLtd's use of debt is absolutely fine. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 1 warning sign for KPX ChemicalLtd you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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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