Warren Buffett famously said, '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 Kim Forest Enterprise Co., Ltd. (GTSM:6645) makes use of debt. But is this debt a concern to shareholders?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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 think about a company's use of debt, we first look at cash and debt together.
How Much Debt Does Kim Forest Enterprise Carry?
As you can see below, Kim Forest Enterprise had NT$43.9m of debt at December 2020, down from NT$233.4m a year prior. However, it does have NT$86.6m in cash offsetting this, leading to net cash of NT$42.6m.
How Strong Is Kim Forest Enterprise's Balance Sheet?
The latest balance sheet data shows that Kim Forest Enterprise had liabilities of NT$97.6m due within a year, and liabilities of NT$45.8m falling due after that. Offsetting these obligations, it had cash of NT$86.6m as well as receivables valued at NT$94.4m due within 12 months. So it actually has NT$37.6m more liquid assets than total liabilities.
This surplus suggests that Kim Forest Enterprise has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Kim Forest Enterprise boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But it is Kim Forest Enterprise'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.
Over 12 months, Kim Forest Enterprise reported revenue of NT$303m, which is a gain of 12%, although it did not report any earnings before interest and tax. We usually like to see faster growth from unprofitable companies, but each to their own.
So How Risky Is Kim Forest Enterprise?
By their very nature companies that are losing money are more risky than those with a long history of profitability. And the fact is that over the last twelve months Kim Forest Enterprise lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through NT$25m of cash and made a loss of NT$26m. But at least it has NT$42.6m on the balance sheet to spend on growth, near-term. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 4 warning signs for Kim Forest Enterprise (1 is a bit unpleasant!) that you should be aware of before investing here.
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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