These 4 Measures Indicate That BHCC Holding (HKG:1552) Is Using Debt Safely

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.' 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. We note that BHCC Holding Limited (HKG:1552) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. If things get really bad, the lenders can take control of the business. 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, 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. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for BHCC Holding

What Is BHCC Holding's Debt?

You can click the graphic below for the historical numbers, but it shows that BHCC Holding had S$17.7m of debt in June 2021, down from S$20.1m, one year before. However, it does have S$39.0m in cash offsetting this, leading to net cash of S$21.3m.

How Strong Is BHCC Holding's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that BHCC Holding had liabilities of S$41.7m due within 12 months and liabilities of S$16.9m due beyond that. Offsetting this, it had S$39.0m in cash and S$32.0m in receivables that were due within 12 months. So it can boast S$12.4m more liquid assets than total liabilities.

This excess liquidity is a great indication that BHCC Holding's balance sheet is almost as strong as Fort Knox. 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 BHCC Holding has more cash than debt is arguably a good indication that it can manage its debt safely.

Notably, BHCC Holding made a loss at the EBIT level, last year, but improved that to positive EBIT of S$757k in the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But it is BHCC Holding'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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. BHCC Holding 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. Happily for any shareholders, BHCC Holding actually produced more free cash flow than EBIT over the last year. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that BHCC Holding has net cash of S$21.3m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of S$12m, being 1,644% of its EBIT. So we don't think BHCC Holding's use of debt is risky. 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. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for BHCC Holding (of which 1 shouldn't be ignored!) 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.

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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