HKC International Holdings (HKG:248) Seems To Use Debt Quite Sensibly

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, HKC International Holdings Limited (HKG:248) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for HKC International Holdings

How Much Debt Does HKC International Holdings Carry?

As you can see below, HKC International Holdings had HK$132.1m of debt at September 2024, down from HK$153.2m a year prior. On the flip side, it has HK$16.1m in cash leading to net debt of about HK$116.0m.

How Strong Is HKC International Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that HKC International Holdings had liabilities of HK$145.6m due within 12 months and liabilities of HK$362.0k due beyond that. Offsetting this, it had HK$16.1m in cash and HK$118.4m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$11.4m.

HKC International Holdings has a market capitalization of HK$39.9m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

HKC International Holdings shareholders face the double whammy of a high net debt to EBITDA ratio (50.8), and fairly weak interest coverage, since EBIT is just 0.085 times the interest expense. The debt burden here is substantial. One redeeming factor for HKC International Holdings is that it turned last year's EBIT loss into a gain of HK$586k, over the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But it is HKC International 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Happily for any shareholders, HKC International Holdings actually produced more free cash flow than EBIT over the last year. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

HKC International Holdings's interest cover was a real negative on this analysis, as was its net debt to EBITDA. But like a ballerina ending on a perfect pirouette, it has not trouble converting EBIT to free cash flow. Looking at all this data makes us feel a little cautious about HKC International Holdings's debt levels. While debt does have its upside in higher potential returns, we think shareholders should definitely consider how debt levels might make the stock more risky. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that HKC International Holdings is showing 2 warning signs in our investment analysis , you should know about...

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. 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.