Would SJM Holdings (HKG:880) Be Better Off With Less 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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies SJM Holdings Limited (HKG:880) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for SJM Holdings

What Is SJM Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that at December 2020 SJM Holdings had debt of HK$19.1b, up from HK$15.5b in one year. However, because it has a cash reserve of HK$6.13b, its net debt is less, at about HK$12.9b.

How Strong Is SJM Holdings' Balance Sheet?

According to the last reported balance sheet, SJM Holdings had liabilities of HK$13.3b due within 12 months, and liabilities of HK$14.8b due beyond 12 months. Offsetting this, it had HK$6.13b in cash and HK$625.1m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$21.3b.

SJM Holdings has a market capitalization of HK$57.3b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. 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 SJM Holdings's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

In the last year SJM Holdings had a loss before interest and tax, and actually shrunk its revenue by 78%, to HK$7.5b. To be frank that doesn't bode well.

Caveat Emptor

While SJM Holdings's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost HK$3.3b at the EBIT level. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled HK$8.1b in negative free cash flow over the last twelve months. So suffice it to say we consider the stock very 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 example - SJM Holdings has 1 warning sign we think you should be aware of.

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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