Ka Shui International Holdings (HKG:822) Seems To Use Debt Rather Sparingly

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. We can see that Ka Shui International Holdings Limited (HKG:822) does use debt in its business. 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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

View 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$114.9m of debt in June 2021, down from HK$222.2m, one year before. But it also has HK$242.9m in cash to offset that, meaning it has HK$128.0m net cash.

How Healthy Is Ka Shui International Holdings' Balance Sheet?

According to the last reported balance sheet, Ka Shui International Holdings had liabilities of HK$437.1m due within 12 months, and liabilities of HK$66.2m due beyond 12 months. Offsetting these obligations, it had cash of HK$242.9m as well as receivables valued at HK$391.9m due within 12 months. So it can boast HK$131.4m more liquid assets than total liabilities.

This short term liquidity is a sign that Ka Shui International Holdings could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Ka Shui International Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Ka Shui International Holdings saw its EBIT drop by 4.7% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Ka Shui International Holdings will need earnings to service that debt. 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 company can only pay off debt with cold hard cash, not accounting profits. 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. Happily for any shareholders, Ka Shui International Holdings actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

While it is always sensible to investigate a company's debt, in this case Ka Shui International Holdings has HK$128.0m in net cash and a decent-looking balance sheet. The cherry on top was that in converted 105% of that EBIT to free cash flow, bringing in HK$101m. So is Ka Shui International Holdings'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. Be aware that Ka Shui International Holdings is showing 2 warning signs in our investment analysis , you should know about...

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.

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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