These 4 Measures Indicate That Top Form International (HKG:333) Is Using Debt Reasonably Well

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Top Form International Limited (HKG:333) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Top Form International

How Much Debt Does Top Form International Carry?

As you can see below, at the end of June 2022, Top Form International had HK$115.4m of debt, up from HK$88.0m a year ago. Click the image for more detail. However, it does have HK$136.5m in cash offsetting this, leading to net cash of HK$21.1m.

How Healthy Is Top Form International's Balance Sheet?

According to the last reported balance sheet, Top Form International had liabilities of HK$336.7m due within 12 months, and liabilities of HK$54.4m due beyond 12 months. On the other hand, it had cash of HK$136.5m and HK$181.6m worth of receivables due within a year. So it has liabilities totalling HK$73.0m more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of HK$102.4m. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. While it does have liabilities worth noting, Top Form International also has more cash than debt, so we're pretty confident it can manage its debt safely.

Although Top Form International made a loss at the EBIT level, last year, it was also good to see that it generated HK$22m in EBIT over the last twelve months. 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 Top Form International 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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Top Form International 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 last year, Top Form International actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While Top Form International does have more liabilities than liquid assets, it also has net cash of HK$21.1m. And it impressed us with free cash flow of HK$43m, being 196% of its EBIT. So we are not troubled with Top Form International's debt use. 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. Case in point: We've spotted 1 warning sign for Top Form International you should be aware of.

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.