These 4 Measures Indicate That AM Group Holdings (HKG:1849) Is Using Debt Reasonably Well

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.' 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 AM Group Holdings Limited (HKG:1849) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for AM Group Holdings

What Is AM Group Holdings's Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2022 AM Group Holdings had S$3.26m of debt, an increase on S$1.92m, over one year. However, its balance sheet shows it holds S$28.1m in cash, so it actually has S$24.8m net cash.

A Look At AM Group Holdings' Liabilities

Zooming in on the latest balance sheet data, we can see that AM Group Holdings had liabilities of S$29.6m due within 12 months and liabilities of S$2.62m due beyond that. Offsetting these obligations, it had cash of S$28.1m as well as receivables valued at S$27.6m due within 12 months. So it can boast S$23.5m more liquid assets than total liabilities.

This excess liquidity is a great indication that AM Group Holdings' balance sheet is almost as strong as Fort Knox. With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Simply put, the fact that AM Group Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Shareholders should be aware that AM Group Holdings's EBIT was down 97% last year. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. When analysing debt levels, the balance sheet is the obvious place to start. But it is AM Group Holdings'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. AM Group Holdings 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. In the last two years, AM Group Holdings created free cash flow amounting to 2.7% of its EBIT, an uninspiring performance. 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 AM Group Holdings has net cash of S$24.8m, as well as more liquid assets than liabilities. So we are not troubled with AM Group 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. For example AM Group Holdings has 2 warning signs (and 1 which is a bit concerning) we think you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.