Is Hi-Level Technology Holdings (HKG:8113) Using Too Much Debt?

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Hi-Level Technology Holdings Limited (HKG:8113) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Hi-Level Technology Holdings

What Is Hi-Level Technology Holdings's Debt?

You can click the graphic below for the historical numbers, but it shows that Hi-Level Technology Holdings had HK$54.7m of debt in December 2020, down from HK$147.6m, one year before. However, it does have HK$142.4m in cash offsetting this, leading to net cash of HK$87.8m.

A Look At Hi-Level Technology Holdings' Liabilities

The latest balance sheet data shows that Hi-Level Technology Holdings had liabilities of HK$390.0m due within a year, and liabilities of HK$142.0k falling due after that. Offsetting these obligations, it had cash of HK$142.4m as well as receivables valued at HK$165.6m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$82.1m.

While this might seem like a lot, it is not so bad since Hi-Level Technology Holdings has a market capitalization of HK$290.5m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, Hi-Level Technology Holdings also has more cash than debt, so we're pretty confident it can manage its debt safely.

On top of that, Hi-Level Technology Holdings grew its EBIT by 63% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is Hi-Level Technology Holdings's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Hi-Level Technology 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, Hi-Level Technology Holdings actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

Although Hi-Level Technology Holdings's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of HK$87.8m. And it impressed us with free cash flow of HK$127m, being 266% of its EBIT. So we don't think Hi-Level Technology Holdings's use of debt is 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. To that end, you should learn about the 4 warning signs we've spotted with Hi-Level Technology Holdings (including 1 which is concerning) .

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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