Sinotruk (Hong Kong) (HKG:3808) Has A Pretty Healthy Balance Sheet

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Sinotruk (Hong Kong) Limited (HKG:3808) does use debt in its business. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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, 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.

View our latest analysis for Sinotruk (Hong Kong)

How Much Debt Does Sinotruk (Hong Kong) Carry?

You can click the graphic below for the historical numbers, but it shows that as of June 2022 Sinotruk (Hong Kong) had CN¥4.88b of debt, an increase on CN¥2.90b, over one year. But it also has CN¥35.0b in cash to offset that, meaning it has CN¥30.1b net cash.

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

Zooming in on the latest balance sheet data, we can see that Sinotruk (Hong Kong) had liabilities of CN¥57.5b due within 12 months and liabilities of CN¥1.25b due beyond that. On the other hand, it had cash of CN¥35.0b and CN¥16.8b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥7.02b.

This deficit isn't so bad because Sinotruk (Hong Kong) is worth CN¥17.1b, and thus could probably raise enough capital to shore up 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.

It is just as well that Sinotruk (Hong Kong)'s load is not too heavy, because its EBIT was down 85% over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. 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 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 Sinotruk (Hong Kong) 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, Sinotruk (Hong Kong) generated free cash flow amounting to a very robust 96% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While Sinotruk (Hong Kong) does have more liabilities than liquid assets, it also has net cash of CN¥30.1b. The cherry on top was that in converted 96% of that EBIT to free cash flow, bringing in -CN¥3.8b. So we are not troubled with Sinotruk (Hong Kong)'s debt use. 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. Case in point: We've spotted 3 warning signs for Sinotruk (Hong Kong) you should be aware of, and 1 of them is significant.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.