Is SFK Construction Holdings (HKG:1447) Using Debt Sensibly?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that SFK Construction Holdings Limited (HKG:1447) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for SFK Construction Holdings

How Much Debt Does SFK Construction Holdings Carry?

You can click the graphic below for the historical numbers, but it shows that SFK Construction Holdings had HK$65.3m of debt in June 2021, down from HK$343.0m, one year before. But it also has HK$273.8m in cash to offset that, meaning it has HK$208.5m net cash.

How Strong Is SFK Construction Holdings' Balance Sheet?

The latest balance sheet data shows that SFK Construction Holdings had liabilities of HK$1.17b due within a year, and liabilities of HK$38.9m falling due after that. Offsetting this, it had HK$273.8m in cash and HK$1.15b in receivables that were due within 12 months. So it actually has HK$209.9m 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. The balance sheet is clearly the area to focus on when you are analysing debt. But it is SFK Construction 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.

Over 12 months, SFK Construction Holdings made a loss at the EBIT level, and saw its revenue drop to HK$3.6b, which is a fall of 15%. We would much prefer see growth.

So How Risky Is SFK Construction Holdings?

Although SFK Construction Holdings had an earnings before interest and tax (EBIT) loss over the last twelve months, it made a statutory profit of HK$21m. So taking that on face value, and considering the cash, we don't think its very risky in the near term. The next few years will be important as the business matures. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example SFK Construction Holdings has 5 warning signs (and 1 which is a bit concerning) we think you should know about.

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.
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