David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital. 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, Hop Fung Group Holdings Limited (HKG:2320) 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. If things get really bad, the lenders can take control of the business. 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.
Check out our latest analysis for Hop Fung Group Holdings
What Is Hop Fung Group Holdings's Debt?
The image below, which you can click on for greater detail, shows that Hop Fung Group Holdings had debt of HK$208.4m at the end of June 2019, a reduction from HK$231.4m over a year. But on the other hand it also has HK$306.4m in cash, leading to a HK$98.0m net cash position.
How Healthy Is Hop Fung Group Holdings's Balance Sheet?
We can see from the most recent balance sheet that Hop Fung Group Holdings had liabilities of HK$332.8m falling due within a year, and liabilities of HK$107.6m due beyond that. Offsetting these obligations, it had cash of HK$306.4m as well as receivables valued at HK$142.4m due within 12 months. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.
This surplus suggests that Hop Fung Group Holdings has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Hop Fung Group Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!
In fact Hop Fung Group Holdings's saving grace is its low debt levels, because its EBIT has tanked 71% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But it is Hop Fung Group Holdings'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. Hop Fung Group Holdings 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, Hop Fung Group Holdings saw substantial negative free cash flow, in total. 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
While it is always sensible to investigate a company's debt, in this case Hop Fung Group Holdings has HK$98.0m in net cash and a decent-looking balance sheet. So while Hop Fung Group Holdings 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. Like risks, for instance. Every company has them, and we've spotted 5 warning signs for Hop Fung Group Holdings (of which 1 makes us a bit uncomfortable!) you should know about.
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.
If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. 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. Simply Wall St has no position in the stocks mentioned.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.
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Is Hop Fung Group Holdings (HKG:2320) Using Too Much Debt? - Yahoo Finance
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