Is Ka Shui International Holdings (HKG:822) Using Too Much Debt?

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. As with many other companies Ka Shui International Holdings Limited (HKG:822) makes use of debt. But should shareholders be worried about its use of debt?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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 step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Ka Shui International Holdings

What Is Ka Shui International Holdings's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Ka Shui International Holdings had HK$147.6m of debt in December 2021, down from HK$154.8m, one year before. However, its balance sheet shows it holds HK$280.7m in cash, so it actually has HK$133.0m net cash.

A Look At Ka Shui International Holdings' Liabilities

We can see from the most recent balance sheet that Ka Shui International Holdings had liabilities of HK$490.1m falling due within a year, and liabilities of HK$48.2m due beyond that. Offsetting these obligations, it had cash of HK$280.7m as well as receivables valued at HK$468.9m due within 12 months. So it can boast HK$211.3m more liquid assets than total liabilities.

This excess liquidity is a great indication that Ka Shui International Holdings' balance sheet is almost as strong as Fort Knox. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Succinctly put, Ka Shui International Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

While Ka Shui International Holdings doesn't seem to have gained much on the EBIT line, at least earnings remain stable for now. There's no doubt that we learn most about debt from the balance sheet. But it is Ka Shui International Holdings's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Ka Shui International 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. Over the most recent three years, Ka Shui International Holdings recorded free cash flow worth 76% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing up

While it is always sensible to investigate a company's debt, in this case Ka Shui International Holdings has HK$133.0m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of HK$79m, being 76% of its EBIT. So we don't think Ka Shui International Holdings's use of debt is risky. 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. We've identified 2 warning signs with Ka Shui International Holdings , and understanding them should be part of your investment process.

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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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.