These 4 Measures Indicate That Theme International Holdings (HKG:990) Is Using Debt Safely

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Theme International Holdings Limited (HKG:990) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Theme International Holdings

What Is Theme International Holdings's Debt?

As you can see below, at the end of June 2021, Theme International Holdings had HK$1.26b of debt, up from HK$808.4m a year ago. Click the image for more detail. However, it does have HK$2.08b in cash offsetting this, leading to net cash of HK$819.9m.

A Look At Theme International Holdings' Liabilities

Zooming in on the latest balance sheet data, we can see that Theme International Holdings had liabilities of HK$5.44b due within 12 months and liabilities of HK$3.66m due beyond that. Offsetting this, it had HK$2.08b in cash and HK$3.46b in receivables that were due within 12 months. So these liquid assets roughly match the total liabilities.

Having regard to Theme International Holdings' size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the HK$17.4b company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that Theme International Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Even more impressive was the fact that Theme International Holdings grew its EBIT by 212% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. 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 Theme 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Theme International Holdings 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. Over the last three years, Theme International Holdings actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Theme International Holdings has net cash of HK$819.9m, as well as more liquid assets than liabilities. The cherry on top was that in converted 941% of that EBIT to free cash flow, bringing in HK$2.0b. So we don't think Theme International Holdings's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Theme 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.

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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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