Is Cornerstone Financial Holdings (HKG:8112) Using Too Much 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. Importantly, Cornerstone Financial Holdings Limited (HKG:8112) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Cornerstone Financial Holdings

What Is Cornerstone Financial Holdings's Debt?

The chart below, which you can click on for greater detail, shows that Cornerstone Financial Holdings had HK$31.2m in debt in December 2022; about the same as the year before. But it also has HK$125.9m in cash to offset that, meaning it has HK$94.7m net cash.

How Strong Is Cornerstone Financial Holdings' Balance Sheet?

According to the last reported balance sheet, Cornerstone Financial Holdings had liabilities of HK$65.9m due within 12 months, and liabilities of HK$15.4m due beyond 12 months. Offsetting this, it had HK$125.9m in cash and HK$89.4m in receivables that were due within 12 months. So it can boast HK$134.0m more liquid assets than total liabilities.

This luscious liquidity implies that Cornerstone Financial Holdings' balance sheet is sturdy like a giant sequoia tree. With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Succinctly put, Cornerstone Financial Holdings boasts net cash, so it's fair to say it does not have a heavy debt load! 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 Cornerstone Financial 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.

In the last year Cornerstone Financial Holdings wasn't profitable at an EBIT level, but managed to grow its revenue by 6.2%, to HK$59m. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

So How Risky Is Cornerstone Financial Holdings?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And in the last year Cornerstone Financial Holdings had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of HK$26m and booked a HK$29m accounting loss. But the saving grace is the HK$94.7m on the balance sheet. That kitty means the company can keep spending for growth for at least two years, at current rates. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for Cornerstone Financial Holdings (1 is significant) 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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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.