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. We can see that Hao Tian International Construction Investment Group Limited (HKG:1341) does use debt in its business. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
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. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
How Much Debt Does Hao Tian International Construction Investment Group Carry?
You can click the graphic below for the historical numbers, but it shows that Hao Tian International Construction Investment Group had HK$138.6m of debt in March 2019, down from HK$218.0m, one year before. But on the other hand it also has HK$254.1m in cash, leading to a HK$115.5m net cash position.
How Healthy Is Hao Tian International Construction Investment Group’s Balance Sheet?
We can see from the most recent balance sheet that Hao Tian International Construction Investment Group had liabilities of HK$211.9m falling due within a year, and liabilities of HK$101.6m due beyond that. On the other hand, it had cash of HK$254.1m and HK$248.6m worth of receivables due within a year. So it actually has HK$189.1m more liquid assets than total liabilities.
This excess liquidity suggests that Hao Tian International Construction Investment Group 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, Hao Tian International Construction Investment Group boasts net cash, so it’s fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But you can’t view debt in total isolation; since Hao Tian International Construction Investment Group will need earnings to service that debt. 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.
In the last year Hao Tian International Construction Investment Group wasn’t profitable at an EBIT level, but managed to grow its revenue by6.4%, to HK$177m. We usually like to see faster growth from unprofitable companies, but each to their own.
So How Risky Is Hao Tian International Construction Investment Group?
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 Hao Tian International Construction Investment Group lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of HK$149m and booked a HK$6.5m accounting loss. However, it has net cash of HK$115.5m, so it has a bit of time before it will need more capital. Overall, its balance sheet doesn’t seem overly risky, at the moment, but we’re always cautious until we see the positive free cash flow. When I consider a company to be a bit risky, I think it is responsible to check out whether insiders have been reporting any share sales. Luckily, you can click here ito see our graphic depicting Hao Tian International Construction Investment Group insider transactions.
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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If you spot an error that warrants correction, please contact the editor at email@example.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. Thank you for reading.