Does New Century Group Hong Kong (HKG:234) Have A Healthy Balance Sheet?

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. We can see that New Century Group Hong Kong Limited (HKG:234) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. 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, 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.

View our latest analysis for New Century Group Hong Kong

How Much Debt Does New Century Group Hong Kong Carry?

As you can see below, New Century Group Hong Kong had HK$71.8m of debt at September 2021, down from HK$111.8m a year prior. However, it does have HK$550.8m in cash offsetting this, leading to net cash of HK$479.0m.

How Healthy Is New Century Group Hong Kong's Balance Sheet?

We can see from the most recent balance sheet that New Century Group Hong Kong had liabilities of HK$104.4m falling due within a year, and liabilities of HK$21.3m due beyond that. Offsetting these obligations, it had cash of HK$550.8m as well as receivables valued at HK$411.3m due within 12 months. So it can boast HK$836.5m more liquid assets than total liabilities.

This surplus liquidity suggests that New Century Group Hong Kong's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Succinctly put, New Century Group Hong Kong boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that New Century Group Hong Kong's load is not too heavy, because its EBIT was down 85% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But it is New Century Group Hong Kong'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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. New Century Group Hong Kong 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. Happily for any shareholders, New Century Group Hong Kong actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

While it is always sensible to investigate a company's debt, in this case New Century Group Hong Kong has HK$479.0m in net cash and a strong balance sheet. And it impressed us with free cash flow of HK$14m, being 142% of its EBIT. So we don't think New Century Group Hong Kong's use of debt is risky. 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. For example, we've discovered 3 warning signs for New Century Group Hong Kong (1 makes us a bit uncomfortable!) that you should be aware of before investing here.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.