Is Honbridge Holdings (HKG:8137) Using Debt Sensibly?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. Importantly, Honbridge Holdings Limited (HKG:8137) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Honbridge Holdings

What Is Honbridge Holdings's Debt?

As you can see below, Honbridge Holdings had HK$271.5m of debt, at June 2022, which is about the same as the year before. You can click the chart for greater detail. However, it does have HK$464.4m in cash offsetting this, leading to net cash of HK$192.9m.

How Strong Is Honbridge Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Honbridge Holdings had liabilities of HK$230.5m due within 12 months and liabilities of HK$2.51b due beyond that. On the other hand, it had cash of HK$464.4m and HK$24.2m worth of receivables due within a year. So it has liabilities totalling HK$2.26b more than its cash and near-term receivables, combined.

This deficit is considerable relative to its market capitalization of HK$3.26b, so it does suggest shareholders should keep an eye on Honbridge Holdings' use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. Despite its noteworthy liabilities, Honbridge Holdings boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Honbridge Holdings will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Honbridge Holdings had a loss before interest and tax, and actually shrunk its revenue by 24%, to HK$311m. To be frank that doesn't bode well.

So How Risky Is Honbridge Holdings?

While Honbridge Holdings lost money on an earnings before interest and tax (EBIT) level, it actually generated positive free cash flow HK$135m. So taking that on face value, and considering the net cash situation, we don't think that the stock is too risky in the near term. With revenue growth uninspiring, we'd really need to see some positive EBIT before mustering much enthusiasm for this business. 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 1 warning sign we've spotted with Honbridge Holdings .

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.