Is Cafe24 (KOSDAQ:042000) Using Too Much Debt?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Cafe24 Corp. (KOSDAQ:042000) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Cafe24

What Is Cafe24's Net Debt?

The image below, which you can click on for greater detail, shows that Cafe24 had debt of ₩12.4b at the end of March 2024, a reduction from ₩63.3b over a year. But it also has ₩98.3b in cash to offset that, meaning it has ₩85.9b net cash.

How Strong Is Cafe24's Balance Sheet?

We can see from the most recent balance sheet that Cafe24 had liabilities of ₩106.0b falling due within a year, and liabilities of ₩23.3b due beyond that. On the other hand, it had cash of ₩98.3b and ₩47.9b worth of receivables due within a year. So it can boast ₩16.9b more liquid assets than total liabilities.

This surplus suggests that Cafe24 has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Cafe24 boasts net cash, so it's fair to say it does not have a heavy debt load!

We also note that Cafe24 improved its EBIT from a last year's loss to a positive ₩4.3b. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Cafe24's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Cafe24 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 last year, Cafe24 actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While it is always sensible to investigate a company's debt, in this case Cafe24 has ₩85.9b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of ₩38b, being 897% of its EBIT. So we are not troubled with Cafe24'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. We've identified 2 warning signs with Cafe24 (at least 1 which is potentially serious) , and understanding them should be part of your investment process.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com