TK Group (Holdings) (HKG:2283) Seems To Use Debt Quite Sensibly

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. As with many other companies TK Group (Holdings) Limited (HKG:2283) makes use of debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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.

See our latest analysis for TK Group (Holdings)

What Is TK Group (Holdings)'s Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 TK Group (Holdings) had HK$282.2m of debt, an increase on HK$242.0m, over one year. But on the other hand it also has HK$920.4m in cash, leading to a HK$638.2m net cash position.

A Look At TK Group (Holdings)'s Liabilities

Zooming in on the latest balance sheet data, we can see that TK Group (Holdings) had liabilities of HK$1.01b due within 12 months and liabilities of HK$165.1m due beyond that. Offsetting this, it had HK$920.4m in cash and HK$301.1m in receivables that were due within 12 months. So it actually has HK$43.8m more liquid assets than total liabilities.

Having regard to TK Group (Holdings)'s size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the HK$2.32b company is short on cash, but still worth keeping an eye on the balance sheet. Succinctly put, TK Group (Holdings) boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for TK Group (Holdings) if management cannot prevent a repeat of the 36% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if TK Group (Holdings) can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While TK Group (Holdings) has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, TK Group (Holdings) generated free cash flow amounting to a very robust 89% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing up

While it is always sensible to investigate a company's debt, in this case TK Group (Holdings) has HK$638.2m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of HK$440m, being 89% of its EBIT. So we are not troubled with TK Group (Holdings)'s debt use. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 2 warning signs we've spotted with TK Group (Holdings) .

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.

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