Here's Why HK Asia Holdings (HKG:1723) Can Manage Its Debt Responsibly

Warren Buffett famously said, '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, HK Asia Holdings Limited (HKG:1723) 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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for HK Asia Holdings

What Is HK Asia Holdings's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 HK Asia Holdings had HK$12.0m of debt, an increase on none, over one year. But on the other hand it also has HK$65.9m in cash, leading to a HK$53.9m net cash position.

A Look At HK Asia Holdings' Liabilities

We can see from the most recent balance sheet that HK Asia Holdings had liabilities of HK$24.6m falling due within a year, and liabilities of HK$2.45m due beyond that. On the other hand, it had cash of HK$65.9m and HK$1.42m worth of receivables due within a year. So it actually has HK$40.3m more liquid assets than total liabilities.

This surplus suggests that HK Asia Holdings has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, HK Asia Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

But the bad news is that HK Asia Holdings has seen its EBIT plunge 10% in the last twelve months. If that rate of decline in earnings continues, the company could find itself in a tight spot. 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 HK Asia Holdings 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. HK Asia 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. Over the last three years, HK Asia Holdings barely recorded positive free cash flow, in total. While many companies do operate at break-even, we prefer see substantial free cash flow, especially if a it already has dead.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that HK Asia Holdings has net cash of HK$53.9m, as well as more liquid assets than liabilities. So we don't have any problem with HK Asia Holdings's use of 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. Case in point: We've spotted 1 warning sign for HK Asia Holdings 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. 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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