We Think Chong Fai Jewellery Group Holdings (HKG:8537) Can Stay On Top Of Its Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. Importantly, Chong Fai Jewellery Group Holdings Company Limited (HKG:8537) does carry debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. 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.

Check out our latest analysis for Chong Fai Jewellery Group Holdings

What Is Chong Fai Jewellery Group Holdings's Debt?

The image below, which you can click on for greater detail, shows that Chong Fai Jewellery Group Holdings had debt of HK$19.7m at the end of September 2024, a reduction from HK$25.9m over a year. However, it does have HK$35.5m in cash offsetting this, leading to net cash of HK$15.9m.

How Healthy Is Chong Fai Jewellery Group Holdings' Balance Sheet?

The latest balance sheet data shows that Chong Fai Jewellery Group Holdings had liabilities of HK$38.0m due within a year, and liabilities of HK$2.21m falling due after that. Offsetting these obligations, it had cash of HK$35.5m as well as receivables valued at HK$1.90m due within 12 months. So its liabilities total HK$2.80m more than the combination of its cash and short-term receivables.

Since publicly traded Chong Fai Jewellery Group Holdings shares are worth a total of HK$41.4m, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Chong Fai Jewellery Group Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

We also note that Chong Fai Jewellery Group Holdings improved its EBIT from a last year's loss to a positive HK$1.1m. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Chong Fai Jewellery Group 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Chong Fai Jewellery Group 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. Over the last year, Chong Fai Jewellery Group Holdings 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

We could understand if investors are concerned about Chong Fai Jewellery Group Holdings's liabilities, but we can be reassured by the fact it has has net cash of HK$15.9m. The cherry on top was that in converted 688% of that EBIT to free cash flow, bringing in HK$7.3m. So we are not troubled with Chong Fai Jewellery Group Holdings's debt use. 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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Chong Fai Jewellery Group Holdings (of which 2 are potentially serious!) you should know about.

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.