i-Control Holdings (HKG:1402) Takes On Some Risk With Its Use Of Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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, i-Control Holdings Limited (HKG:1402) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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.

View our latest analysis for i-Control Holdings

How Much Debt Does i-Control Holdings Carry?

You can click the graphic below for the historical numbers, but it shows that i-Control Holdings had HK$18.4m of debt in March 2023, down from HK$22.5m, one year before. But on the other hand it also has HK$49.6m in cash, leading to a HK$31.2m net cash position.

A Look At i-Control Holdings' Liabilities

We can see from the most recent balance sheet that i-Control Holdings had liabilities of HK$54.2m falling due within a year, and liabilities of HK$1.46m due beyond that. Offsetting this, it had HK$49.6m in cash and HK$57.9m in receivables that were due within 12 months. So it can boast HK$51.9m more liquid assets than total liabilities.

This excess liquidity suggests that i-Control Holdings is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that i-Control Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact i-Control Holdings's saving grace is its low debt levels, because its EBIT has tanked 26% in the last twelve months. 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 i-Control 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While i-Control 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. Considering the last three years, i-Control Holdings actually recorded a cash outflow, overall. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that i-Control Holdings has net cash of HK$31.2m, as well as more liquid assets than liabilities. So although we see some areas for improvement, we're not too worried about i-Control Holdings's balance sheet. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 3 warning signs for i-Control Holdings (1 makes us a bit uncomfortable) 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.