KOREA PHARMA (KOSDAQ:032300) Seems To Use Debt Quite Sensibly

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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 KOREA PHARMA Co., Ltd. (KOSDAQ:032300) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for KOREA PHARMA

What Is KOREA PHARMA's Debt?

As you can see below, KOREA PHARMA had ₩34.0b of debt at December 2023, down from ₩53.3b a year prior. But it also has ₩48.3b in cash to offset that, meaning it has ₩14.3b net cash.

How Strong Is KOREA PHARMA's Balance Sheet?

The latest balance sheet data shows that KOREA PHARMA had liabilities of ₩33.3b due within a year, and liabilities of ₩19.4b falling due after that. Offsetting these obligations, it had cash of ₩48.3b as well as receivables valued at ₩14.6b due within 12 months. So it can boast ₩10.2b more liquid assets than total liabilities.

This surplus suggests that KOREA PHARMA has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, KOREA PHARMA boasts net cash, so it's fair to say it does not have a heavy debt load!

Unfortunately, KOREA PHARMA saw its EBIT slide 5.6% in the last twelve months. If earnings continue on that decline then managing that debt will be difficult like delivering hot soup on a unicycle. There's no doubt that we learn most about debt from the balance sheet. But it is KOREA PHARMA'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. KOREA PHARMA 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, KOREA PHARMA produced sturdy free cash flow equating to 67% 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 it is always sensible to investigate a company's debt, in this case KOREA PHARMA has ₩14.3b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of ₩2.1b, being 67% of its EBIT. So we are not troubled with KOREA PHARMA's debt use. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for KOREA PHARMA you should be aware of, and 1 of them is a bit concerning.

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. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.