Is Tailam Tech Construction Holdings (HKG:6193) A Risky Investment?

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. Importantly, Tailam Tech Construction Holdings Limited (HKG:6193) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Tailam Tech Construction Holdings

What Is Tailam Tech Construction Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that Tailam Tech Construction Holdings had debt of CN¥29.2m at the end of December 2020, a reduction from CN¥39.7m over a year. But it also has CN¥64.6m in cash to offset that, meaning it has CN¥35.4m net cash.

A Look At Tailam Tech Construction Holdings' Liabilities

According to the balance sheet data, Tailam Tech Construction Holdings had liabilities of CN¥132.1m due within 12 months, but no longer term liabilities. On the other hand, it had cash of CN¥64.6m and CN¥128.3m worth of receivables due within a year. So it actually has CN¥60.7m more liquid assets than total liabilities.

This excess liquidity is a great indication that Tailam Tech Construction Holdings' balance sheet is almost as strong as Fort Knox. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Tailam Tech Construction Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that Tailam Tech Construction Holdings's load is not too heavy, because its EBIT was down 39% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. There's no doubt that we learn most about debt from the balance sheet. But it is Tailam Tech Construction Holdings's earnings that will influence how the balance sheet holds up in the future. 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. While Tailam Tech Construction Holdings has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Tailam Tech Construction Holdings reported free cash flow worth 12% of its EBIT, which is really quite low. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Tailam Tech Construction Holdings has net cash of CN¥35.4m, as well as more liquid assets than liabilities. So we are not troubled with Tailam Tech Construction Holdings's debt use. 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. To that end, you should learn about the 3 warning signs we've spotted with Tailam Tech Construction Holdings (including 1 which is significant) .

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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This article by Simply Wall St is general in nature. 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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