Does SFK Construction Holdings (HKG:1447) Have A Healthy Balance Sheet?

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, SFK Construction Holdings Limited (HKG:1447) does carry debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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.

Check out our latest analysis for SFK Construction Holdings

What Is SFK Construction Holdings's Net Debt?

As you can see below, at the end of December 2023, SFK Construction Holdings had HK$240.0m of debt, up from HK$50.0m a year ago. Click the image for more detail. But on the other hand it also has HK$349.0m in cash, leading to a HK$109.0m net cash position.

A Look At SFK Construction Holdings' Liabilities

The latest balance sheet data shows that SFK Construction Holdings had liabilities of HK$1.55b due within a year, and liabilities of HK$19.3m falling due after that. Offsetting this, it had HK$349.0m in cash and HK$1.50b in receivables that were due within 12 months. So it actually has HK$277.5m more liquid assets than total liabilities.

This surplus strongly suggests that SFK Construction Holdings has a rock-solid balance sheet (and the debt is of no concern whatsoever). With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Simply put, the fact that SFK Construction Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Even more impressive was the fact that SFK Construction Holdings grew its EBIT by 158% over twelve months. That boost will make it even easier to pay down debt going forward. There's no doubt that we learn most about debt from the balance sheet. But it is SFK Construction Holdings'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. SFK Construction 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, SFK Construction Holdings reported free cash flow worth 10% of its EBIT, which is really quite low. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case SFK Construction Holdings has HK$109.0m in net cash and a strong balance sheet. And it impressed us with its EBIT growth of 158% over the last year. So is SFK Construction Holdings's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that SFK Construction Holdings is showing 4 warning signs in our investment analysis , and 3 of those are a bit unpleasant...

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.