Is Pan Ocean (KRX:028670) Using Too Much Debt?

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.' 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. Importantly, Pan Ocean Co., Ltd. (KRX:028670) does carry debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Pan Ocean

What Is Pan Ocean's Net Debt?

The chart below, which you can click on for greater detail, shows that Pan Ocean had ₩277.7b in debt in September 2024; about the same as the year before. But it also has ₩950.2b in cash to offset that, meaning it has ₩672.5b net cash.

How Healthy Is Pan Ocean's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Pan Ocean had liabilities of ₩1.20t due within 12 months and liabilities of ₩2.55t due beyond that. On the other hand, it had cash of ₩950.2b and ₩250.3b worth of receivables due within a year. So its liabilities total ₩2.55t more than the combination of its cash and short-term receivables.

When you consider that this deficiency exceeds the company's ₩1.77t market capitalization, you might well be inclined to review the balance sheet intently. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. Pan Ocean boasts net cash, so it's fair to say it does not have a heavy debt load, even if it does have very significant liabilities, in total.

Unfortunately, Pan Ocean saw its EBIT slide 9.3% in the last twelve months. If that earnings trend continues then its debt load will grow heavy like the heart of a polar bear watching its sole cub. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Pan Ocean can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Pan Ocean 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 three years, Pan Ocean 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 Pan Ocean does have more liabilities than liquid assets, it also has net cash of ₩672.5b. The cherry on top was that in converted 116% of that EBIT to free cash flow, bringing in ₩318b. So while Pan Ocean does not have a great balance sheet, it's certainly not too bad. 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. We've identified 1 warning sign with Pan Ocean , and understanding them should be part of your investment process.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.