We Think King Fook Holdings (HKG:280) Can Manage Its Debt With Ease

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 seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that King Fook Holdings Limited (HKG:280) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for King Fook Holdings

How Much Debt Does King Fook Holdings Carry?

As you can see below, at the end of September 2021, King Fook Holdings had HK$37.8m of debt, up from HK$32.3m a year ago. Click the image for more detail. However, its balance sheet shows it holds HK$363.9m in cash, so it actually has HK$326.1m net cash.

How Strong Is King Fook Holdings' Balance Sheet?

The latest balance sheet data shows that King Fook Holdings had liabilities of HK$138.7m due within a year, and liabilities of HK$45.2m falling due after that. Offsetting these obligations, it had cash of HK$363.9m as well as receivables valued at HK$13.9m due within 12 months. So it actually has HK$193.8m more liquid assets than total liabilities.

This surplus liquidity suggests that King Fook Holdings' balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that King Fook Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Even more impressive was the fact that King Fook Holdings grew its EBIT by 148% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since King Fook 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. King Fook 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. Happily for any shareholders, King Fook Holdings actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that King Fook Holdings has net cash of HK$326.1m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of HK$157m, being 399% of its EBIT. At the end of the day we're not concerned about King Fook Holdings's debt. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example - King Fook Holdings has 1 warning sign we think you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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.

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