EC Healthcare (HKG:2138) Could Easily Take On More 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 EC Healthcare (HKG:2138) makes use of debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. 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.

View our latest analysis for EC Healthcare

What Is EC Healthcare's Debt?

As you can see below, EC Healthcare had HK$311.7m of debt, at September 2021, which is about the same as the year before. You can click the chart for greater detail. But it also has HK$1.50b in cash to offset that, meaning it has HK$1.19b net cash.

A Look At EC Healthcare's Liabilities

Zooming in on the latest balance sheet data, we can see that EC Healthcare had liabilities of HK$1.26b due within 12 months and liabilities of HK$783.6m due beyond that. Offsetting these obligations, it had cash of HK$1.50b as well as receivables valued at HK$205.4m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$342.9m.

Of course, EC Healthcare has a market capitalization of HK$10.1b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, EC Healthcare also has more cash than debt, so we're pretty confident it can manage its debt safely.

Better yet, EC Healthcare grew its EBIT by 128% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine EC Healthcare's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. EC Healthcare 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 three years, EC Healthcare 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 EC Healthcare's liabilities, but we can be reassured by the fact it has has net cash of HK$1.19b. And it impressed us with free cash flow of HK$610m, being 120% of its EBIT. So is EC Healthcare's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for EC Healthcare you should know about.

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.

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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.