Does Future Data Group (HKG:8229) Have A Healthy Balance Sheet?

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 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. As with many other companies Future Data Group Limited (HKG:8229) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Future Data Group

What Is Future Data Group's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 Future Data Group had HK$30.3m of debt, an increase on HK$22.2m, over one year. But it also has HK$100.7m in cash to offset that, meaning it has HK$70.4m net cash.

A Look At Future Data Group's Liabilities

The latest balance sheet data shows that Future Data Group had liabilities of HK$148.7m due within a year, and liabilities of HK$8.00m falling due after that. On the other hand, it had cash of HK$100.7m and HK$102.1m worth of receivables due within a year. So it actually has HK$46.2m more liquid assets than total liabilities.

This excess liquidity is a great indication that Future Data Group's balance sheet is almost as strong as Fort Knox. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Future Data Group has more cash than debt is arguably a good indication that it can manage its debt safely.

Although Future Data Group made a loss at the EBIT level, last year, it was also good to see that it generated HK$17m in EBIT over the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Future Data Group will need earnings to service that debt. 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 company can only pay off debt with cold hard cash, not accounting profits. While Future Data Group 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. Over the last year, Future Data Group saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing up

While it is always sensible to investigate a company's debt, in this case Future Data Group has HK$70.4m in net cash and a decent-looking balance sheet. So we are not troubled with Future Data Group's debt use. 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. We've identified 2 warning signs with Future Data Group (at least 1 which is potentially serious) , and understanding them should be part of your investment process.

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.

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