Health Check: How Prudently Does EGL Holdings (HKG:6882) Use Debt?

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 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 EGL Holdings Company Limited (HKG:6882) makes use of debt. But the more important question is: how much risk is that debt creating?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.

See our latest analysis for EGL Holdings

How Much Debt Does EGL Holdings Carry?

The image below, which you can click on for greater detail, shows that at June 2022 EGL Holdings had debt of HK$665.8m, up from HK$636.7m in one year. On the flip side, it has HK$130.2m in cash leading to net debt of about HK$535.6m.

How Strong Is EGL Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that EGL Holdings had liabilities of HK$147.0m due within 12 months and liabilities of HK$600.2m due beyond that. Offsetting these obligations, it had cash of HK$130.2m as well as receivables valued at HK$19.1m due within 12 months. So its liabilities total HK$597.9m more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the HK$341.7m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, EGL Holdings would likely require a major re-capitalisation if it had to pay its creditors today. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since EGL Holdings will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, EGL Holdings reported revenue of HK$56m, which is a gain of 81%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.

Caveat Emptor

While we can certainly appreciate EGL Holdings's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Indeed, it lost a very considerable HK$175m at the EBIT level. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it had negative free cash flow of HK$53m over the last twelve months. So suffice it to say we consider the stock to be risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 2 warning signs for EGL Holdings you should be aware of, and 1 of them is a bit unpleasant.

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.