Is Kyung Dong Pharmaceutical (KOSDAQ:011040) A Risky Investment?

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 note that Kyung Dong Pharmaceutical Co., Ltd. (KOSDAQ:011040) 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 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Kyung Dong Pharmaceutical

What Is Kyung Dong Pharmaceutical's Net Debt?

As you can see below, Kyung Dong Pharmaceutical had ₩8.20b of debt at September 2020, down from ₩19.6b a year prior. However, it does have ₩94.5b in cash offsetting this, leading to net cash of ₩86.3b.

How Strong Is Kyung Dong Pharmaceutical's Balance Sheet?

The latest balance sheet data shows that Kyung Dong Pharmaceutical had liabilities of ₩25.4b due within a year, and liabilities of ₩10.6b falling due after that. Offsetting these obligations, it had cash of ₩94.5b as well as receivables valued at ₩15.8b due within 12 months. So it can boast ₩74.4b more liquid assets than total liabilities.

This surplus suggests that Kyung Dong Pharmaceutical is using debt in a way that is appears to be both safe and conservative. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Simply put, the fact that Kyung Dong Pharmaceutical has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Kyung Dong Pharmaceutical has boosted its EBIT by 40%, thus reducing the spectre of future debt repayments. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Kyung Dong Pharmaceutical 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Kyung Dong Pharmaceutical 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. Over the most recent three years, Kyung Dong Pharmaceutical recorded free cash flow worth 63% 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.

Summing up

While it is always sensible to investigate a company's debt, in this case Kyung Dong Pharmaceutical has ₩86.3b in net cash and a decent-looking balance sheet. And we liked the look of last year's 40% year-on-year EBIT growth. So we don't think Kyung Dong Pharmaceutical'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 Kyung Dong Pharmaceutical has 4 warning signs (and 1 which can't be ignored) we think you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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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