These 4 Measures Indicate That Miwon Specialty Chemical (KRX:268280) Is Using Debt Safely

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.' 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 Miwon Specialty Chemical Co., Ltd. (KRX:268280) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, 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 examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Miwon Specialty Chemical

How Much Debt Does Miwon Specialty Chemical Carry?

The image below, which you can click on for greater detail, shows that Miwon Specialty Chemical had debt of ₩11.9b at the end of December 2020, a reduction from ₩15.3b over a year. However, it does have ₩79.9b in cash offsetting this, leading to net cash of ₩68.0b.

How Strong Is Miwon Specialty Chemical's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Miwon Specialty Chemical had liabilities of ₩44.0b due within 12 months and liabilities of ₩22.0b due beyond that. Offsetting these obligations, it had cash of ₩79.9b as well as receivables valued at ₩73.1b due within 12 months. So it actually has ₩87.0b more liquid assets than total liabilities.

This short term liquidity is a sign that Miwon Specialty Chemical could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Miwon Specialty Chemical has more cash than debt is arguably a good indication that it can manage its debt safely.

Fortunately, Miwon Specialty Chemical grew its EBIT by 5.6% in the last year, making that debt load look even more manageable. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Miwon Specialty Chemical's earnings that will influence how the balance sheet holds up in the future. 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. Miwon Specialty Chemical 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, Miwon Specialty Chemical produced sturdy free cash flow equating to 69% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Miwon Specialty Chemical has net cash of ₩68.0b, as well as more liquid assets than liabilities. The cherry on top was that in converted 69% of that EBIT to free cash flow, bringing in ₩50b. So we don't think Miwon Specialty Chemical's use of debt is risky. 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 Miwon Specialty Chemical (1 is significant!) that you should be aware of before investing here.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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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