Sino ICT Holdings (HKG:365) Seems To Use Debt Quite Sensibly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 note that Sino ICT Holdings Limited (HKG:365) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Sino ICT Holdings

What Is Sino ICT Holdings's Net Debt?

As you can see below, Sino ICT Holdings had HK$92.0m of debt, at June 2022, which is about the same as the year before. You can click the chart for greater detail. However, its balance sheet shows it holds HK$269.7m in cash, so it actually has HK$177.8m net cash.

A Look At Sino ICT Holdings' Liabilities

According to the last reported balance sheet, Sino ICT Holdings had liabilities of HK$324.2m due within 12 months, and liabilities of HK$94.4m due beyond 12 months. Offsetting these obligations, it had cash of HK$269.7m as well as receivables valued at HK$291.7m due within 12 months. So it actually has HK$142.8m more liquid assets than total liabilities.

It's good to see that Sino ICT Holdings has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Sino ICT Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Shareholders should be aware that Sino ICT Holdings's EBIT was down 95% last year. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. When analysing debt levels, the balance sheet is the obvious place to start. But it is Sino ICT 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Sino ICT 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. Happily for any shareholders, Sino ICT Holdings actually produced more free cash flow than EBIT over the last three years. 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 Sino ICT Holdings has net cash of HK$177.8m, as well as more liquid assets than liabilities. The cherry on top was that in converted 385% of that EBIT to free cash flow, bringing in HK$107m. So we don't have any problem with Sino ICT Holdings's use of debt. There's no doubt that we learn most about debt from the balance sheet. 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 Sino ICT Holdings you should know about.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.