Shineroad International Holdings (HKG:1587) Seems To Use Debt Rather Sparingly

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.' 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, Shineroad International Holdings Limited (HKG:1587) does carry debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Shineroad International Holdings

What Is Shineroad International Holdings's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2021 Shineroad International Holdings had CN¥20.0m of debt, an increase on none, over one year. But on the other hand it also has CN¥143.4m in cash, leading to a CN¥123.4m net cash position.

How Healthy Is Shineroad International Holdings' Balance Sheet?

We can see from the most recent balance sheet that Shineroad International Holdings had liabilities of CN¥107.7m falling due within a year, and liabilities of CN¥3.89m due beyond that. Offsetting this, it had CN¥143.4m in cash and CN¥95.1m in receivables that were due within 12 months. So it can boast CN¥127.0m more liquid assets than total liabilities.

This surplus strongly suggests that Shineroad International Holdings has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Shineroad International Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Better yet, Shineroad International Holdings grew its EBIT by 121% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Shineroad 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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Shineroad International 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. Looking at the most recent three years, Shineroad International Holdings recorded free cash flow of 36% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While it is always sensible to investigate a company's debt, in this case Shineroad International Holdings has CN¥123.4m in net cash and a decent-looking balance sheet. And we liked the look of last year's 121% year-on-year EBIT growth. So we don't think Shineroad International Holdings's use of debt is risky. 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. For instance, we've identified 4 warning signs for Shineroad International Holdings (1 can't be ignored) you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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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