These 4 Measures Indicate That Derkwoo Electronics (KOSDAQ:263600) Is Using Debt Reasonably Well

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. As with many other companies Derkwoo Electronics Co., Ltd (KOSDAQ:263600) makes use of debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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

Check out our latest analysis for Derkwoo Electronics

What Is Derkwoo Electronics's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Derkwoo Electronics had ₩35.7b of debt, an increase on ₩7.42b, over one year. But on the other hand it also has ₩39.3b in cash, leading to a ₩3.62b net cash position.

How Healthy Is Derkwoo Electronics' Balance Sheet?

We can see from the most recent balance sheet that Derkwoo Electronics had liabilities of ₩39.0b falling due within a year, and liabilities of ₩21.4b due beyond that. Offsetting this, it had ₩39.3b in cash and ₩21.1b in receivables that were due within 12 months. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.

This state of affairs indicates that Derkwoo Electronics' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the ₩142.3b company is struggling for cash, we still think it's worth monitoring its balance sheet. Despite its noteworthy liabilities, Derkwoo Electronics boasts net cash, so it's fair to say it does not have a heavy debt load!

Even more impressive was the fact that Derkwoo Electronics grew its EBIT by 180% over twelve months. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is Derkwoo Electronics'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. Derkwoo Electronics 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, Derkwoo Electronics burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing up

We could understand if investors are concerned about Derkwoo Electronics's liabilities, but we can be reassured by the fact it has has net cash of ₩3.62b. And we liked the look of last year's 180% year-on-year EBIT growth. So we don't have any problem with Derkwoo Electronics's use of debt. 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. For example, we've discovered 3 warning signs for Derkwoo Electronics (2 are a bit concerning!) that you should be aware of before investing here.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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