Avaco (KOSDAQ:083930) Could Easily Take On More Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 can see that Avaco Co., Ltd. (KOSDAQ:083930) does use debt in its business. 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. 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. 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.

Check out our latest analysis for Avaco

How Much Debt Does Avaco Carry?

The image below, which you can click on for greater detail, shows that at December 2020 Avaco had debt of ₩6.36b, up from none in one year. However, its balance sheet shows it holds ₩86.3b in cash, so it actually has ₩80.0b net cash.

A Look At Avaco's Liabilities

Zooming in on the latest balance sheet data, we can see that Avaco had liabilities of ₩67.0b due within 12 months and liabilities of ₩2.80b due beyond that. Offsetting this, it had ₩86.3b in cash and ₩14.6b in receivables that were due within 12 months. So it actually has ₩31.1b more liquid assets than total liabilities.

It's good to see that Avaco has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. 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 Avaco has more cash than debt is arguably a good indication that it can manage its debt safely.

Avaco's EBIT was pretty flat over the last year, but that shouldn't be an issue given the it doesn't have a lot of debt. There's no doubt that we learn most about debt from the balance sheet. But it is Avaco'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Avaco has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Avaco recorded free cash flow worth a fulsome 88% of its EBIT, which is stronger than we'd usually 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 Avaco has net cash of ₩80.0b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of ₩57b, being 88% of its EBIT. So is Avaco's debt a risk? It doesn't seem so to us. 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. For example - Avaco has 2 warning signs we think you should be aware of.

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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