Does Sinotruk (Hong Kong) (HKG:3808) Have A Healthy Balance Sheet?

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.' 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, Sinotruk (Hong Kong) Limited (HKG:3808) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.

Check out our latest analysis for Sinotruk (Hong Kong)

What Is Sinotruk (Hong Kong)'s Net Debt?

The image below, which you can click on for greater detail, shows that at June 2021 Sinotruk (Hong Kong) had debt of CN¥2.90b, up from CN¥1.42b in one year. However, its balance sheet shows it holds CN¥35.1b in cash, so it actually has CN¥32.2b net cash.

How Strong Is Sinotruk (Hong Kong)'s Balance Sheet?

The latest balance sheet data shows that Sinotruk (Hong Kong) had liabilities of CN¥80.6b due within a year, and liabilities of CN¥1.24b falling due after that. Offsetting this, it had CN¥35.1b in cash and CN¥34.9b in receivables that were due within 12 months. So it has liabilities totalling CN¥11.8b more than its cash and near-term receivables, combined.

Sinotruk (Hong Kong) has a market capitalization of CN¥30.8b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Sinotruk (Hong Kong) also has more cash than debt, so we're pretty confident it can manage its debt safely.

In addition to that, we're happy to report that Sinotruk (Hong Kong) has boosted its EBIT by 87%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Sinotruk (Hong Kong)'s ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Sinotruk (Hong Kong) 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, Sinotruk (Hong Kong) actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

Although Sinotruk (Hong Kong)'s balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥32.2b. And it impressed us with free cash flow of CN¥18b, being 164% of its EBIT. So is Sinotruk (Hong Kong)'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. 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 Sinotruk (Hong Kong) .

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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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