Health Check: How Prudently Does Daphne International Holdings (HKG:210) Use Debt?

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 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. As with many other companies Daphne International Holdings Limited (HKG:210) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Daphne International Holdings

What Is Daphne International Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that at June 2021 Daphne International Holdings had debt of HK$25.0m, up from none in one year. But on the other hand it also has HK$122.6m in cash, leading to a HK$97.7m net cash position.

How Healthy Is Daphne International Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Daphne International Holdings had liabilities of HK$106.4m due within 12 months and liabilities of HK$37.4m due beyond that. On the other hand, it had cash of HK$122.6m and HK$116.7m worth of receivables due within a year. So it actually has HK$95.6m more liquid assets than total liabilities.

This surplus liquidity suggests that Daphne International Holdings' balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Daphne International Holdings has more cash than debt is arguably a good indication that it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But it is Daphne International Holdings's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Daphne International Holdings made a loss at the EBIT level, and saw its revenue drop to HK$199m, which is a fall of 79%. To be frank that doesn't bode well.

So How Risky Is Daphne International Holdings?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And we do note that Daphne International Holdings had an earnings before interest and tax (EBIT) loss, over the last year. And over the same period it saw negative free cash outflow of HK$109m and booked a HK$56m accounting loss. With only HK$97.7m on the balance sheet, it would appear that its going to need to raise capital again soon. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. 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. Be aware that Daphne International Holdings is showing 2 warning signs in our investment analysis , and 1 of those is potentially serious...

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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