Is i-Components (KOSDAQ:059100) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We note that i-Components Co., Ltd (KOSDAQ:059100) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. 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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for i-Components

How Much Debt Does i-Components Carry?

As you can see below, i-Components had ₩17.3b of debt, at September 2020, which is about the same as the year before. You can click the chart for greater detail. However, because it has a cash reserve of ₩15.7b, its net debt is less, at about ₩1.62b.

How Healthy Is i-Components's Balance Sheet?

According to the last reported balance sheet, i-Components had liabilities of ₩15.7b due within 12 months, and liabilities of ₩4.08b due beyond 12 months. On the other hand, it had cash of ₩15.7b and ₩4.98b worth of receivables due within a year. So it actually has ₩853.1m more liquid assets than total liabilities.

This short term liquidity is a sign that i-Components could probably pay off its debt with ease, as its balance sheet is far from stretched.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Looking at its net debt to EBITDA of 0.36 and interest cover of 2.9 times, it seems to us that i-Components is probably using debt in a pretty reasonable way. But the interest payments are certainly sufficient to have us thinking about how affordable its debt is. Notably, i-Components made a loss at the EBIT level, last year, but improved that to positive EBIT of ₩1.1b in the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since i-Components 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. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Over the last year, i-Components 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.

Our View

i-Components's conversion of EBIT to free cash flow suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. But we must concede we find its interest cover has the opposite effect. When we consider the range of factors above, it looks like i-Components is pretty sensible with its use of debt. While that brings some risk, it can also enhance returns for shareholders. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Take risks, for example - i-Components has 2 warning signs (and 1 which doesn't sit too well with us) we think you should know about.

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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