Shinhwa Contech (KOSDAQ:187270) Is Making Moderate Use Of Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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 Shinhwa Contech Co., Ltd (KOSDAQ:187270) makes use of debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.

View our latest analysis for Shinhwa Contech

How Much Debt Does Shinhwa Contech Carry?

The image below, which you can click on for greater detail, shows that at September 2020 Shinhwa Contech had debt of ₩36.2b, up from ₩31.4b in one year. However, it does have ₩17.5b in cash offsetting this, leading to net debt of about ₩18.7b.

How Strong Is Shinhwa Contech's Balance Sheet?

We can see from the most recent balance sheet that Shinhwa Contech had liabilities of ₩34.8b falling due within a year, and liabilities of ₩11.5b due beyond that. Offsetting these obligations, it had cash of ₩17.5b as well as receivables valued at ₩8.96b due within 12 months. So its liabilities total ₩19.9b more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of ₩25.9b, so it does suggest shareholders should keep an eye on Shinhwa Contech's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Shinhwa Contech will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Shinhwa Contech wasn't profitable at an EBIT level, but managed to grow its revenue by 4.3%, to ₩43b. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Over the last twelve months Shinhwa Contech produced an earnings before interest and tax (EBIT) loss. To be specific the EBIT loss came in at ₩787m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled ₩175m in negative free cash flow over the last twelve months. So to be blunt we think it 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. To that end, you should learn about the 3 warning signs we've spotted with Shinhwa Contech (including 2 which is are significant) .

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.

If you’re looking to trade Shinhwa Contech, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

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