Is Tristate Holdings (HKG:458) Using Debt In A Risky Way?

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. As with many other companies Tristate Holdings Limited (HKG:458) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Tristate Holdings

What Is Tristate Holdings's Debt?

As you can see below, Tristate Holdings had HK$60.3m of debt at June 2020, down from HK$113.2m a year prior. But on the other hand it also has HK$223.5m in cash, leading to a HK$163.2m net cash position.

How Healthy Is Tristate Holdings's Balance Sheet?

According to the last reported balance sheet, Tristate Holdings had liabilities of HK$661.7m due within 12 months, and liabilities of HK$493.9m due beyond 12 months. Offsetting this, it had HK$223.5m in cash and HK$240.3m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$691.7m.

This deficit casts a shadow over the HK$271.6m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, Tristate Holdings would probably need a major re-capitalization if its creditors were to demand repayment. Given that Tristate Holdings has more cash than debt, we're pretty confident it can handle its debt, despite the fact that it has a lot of liabilities in total. There's no doubt that we learn most about debt from the balance sheet. But it is Tristate 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.

In the last year Tristate Holdings had a loss before interest and tax, and actually shrunk its revenue by 11%, to HK$2.6b. We would much prefer see growth.

So How Risky Is Tristate Holdings?

While Tristate Holdings lost money on an earnings before interest and tax (EBIT) level, it actually generated positive free cash flow HK$199m. So taking that on face value, and considering the net cash situation, we don't think that the stock is too risky in the near term. We're not impressed by its revenue growth, so until we see some positive sustainable EBIT, we consider the stock to be high risk. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Consider for instance, the ever-present spectre of investment risk. We've identified 2 warning signs with Tristate Holdings (at least 1 which can't be ignored) , 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. 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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