Is Kedge Construction (TWSE:2546) A Risky Investment?

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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Kedge Construction Co., Ltd. (TWSE:2546) does carry debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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 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 Kedge Construction

What Is Kedge Construction's Debt?

As you can see below, Kedge Construction had NT$200.0m of debt at September 2023, down from NT$585.0m a year prior. But on the other hand it also has NT$5.05b in cash, leading to a NT$4.85b net cash position.

How Strong Is Kedge Construction's Balance Sheet?

We can see from the most recent balance sheet that Kedge Construction had liabilities of NT$7.17b falling due within a year, and liabilities of NT$188.6m due beyond that. Offsetting this, it had NT$5.05b in cash and NT$4.50b in receivables that were due within 12 months. So it actually has NT$2.20b more liquid assets than total liabilities.

This excess liquidity suggests that Kedge Construction is taking a careful approach to debt. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Succinctly put, Kedge Construction boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Kedge Construction has boosted its EBIT by 49%, thus reducing the spectre of future debt repayments. There's no doubt that we learn most about debt from the balance sheet. But it is Kedge Construction's earnings that will influence how the balance sheet holds up in the future. 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Kedge Construction has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, Kedge Construction generated free cash flow amounting to a very robust 97% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Kedge Construction has net cash of NT$4.85b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of -NT$74m, being 97% of its EBIT. The bottom line is that we do not find Kedge Construction's debt levels at all concerning. 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 1 warning sign with Kedge Construction , and understanding them should be part of your investment process.

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.

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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.