Asia CementLtd (KRX:183190) Seems To Be Using A Lot Of Debt

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.' 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 note that Asia Cement Co.,Ltd. (KRX:183190) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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.

View our latest analysis for Asia CementLtd

What Is Asia CementLtd's Debt?

The image below, which you can click on for greater detail, shows that Asia CementLtd had debt of ₩631.0b at the end of September 2020, a reduction from ₩658.3b over a year. However, because it has a cash reserve of ₩88.9b, its net debt is less, at about ₩542.1b.

A Look At Asia CementLtd's Liabilities

The latest balance sheet data shows that Asia CementLtd had liabilities of ₩213.1b due within a year, and liabilities of ₩884.9b falling due after that. Offsetting this, it had ₩88.9b in cash and ₩161.3b in receivables that were due within 12 months. So its liabilities total ₩847.9b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the ₩296.8b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Asia CementLtd would likely require a major re-capitalisation if it had to pay its creditors today.

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

While Asia CementLtd's debt to EBITDA ratio (3.6) suggests that it uses some debt, its interest cover is very weak, at 2.3, suggesting high leverage. So shareholders should probably be aware that interest expenses appear to have really impacted the business lately. Another concern for investors might be that Asia CementLtd's EBIT fell 16% in the last year. If things keep going like that, handling the debt will about as easy as bundling an angry house cat into its travel box. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Asia CementLtd can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the most recent three years, Asia CementLtd recorded free cash flow worth 53% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

On the face of it, Asia CementLtd's EBIT growth rate left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Taking into account all the aforementioned factors, it looks like Asia CementLtd has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. 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. Take risks, for example - Asia CementLtd has 5 warning signs (and 1 which shouldn't be ignored) we think you should know about.

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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