Is HKT Trust and HKT (HKG:6823) Using Too Much Debt?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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, HKT Trust and HKT Limited (HKG:6823) does carry debt. But should shareholders be worried about its use of debt?

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. 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. 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.

See our latest analysis for HKT Trust and HKT

How Much Debt Does HKT Trust and HKT Carry?

The image below, which you can click on for greater detail, shows that at June 2021 HKT Trust and HKT had debt of HK$43.1b, up from HK$41.2b in one year. On the flip side, it has HK$2.16b in cash leading to net debt of about HK$41.0b.

A Look At HKT Trust and HKT's Liabilities

Zooming in on the latest balance sheet data, we can see that HKT Trust and HKT had liabilities of HK$14.3b due within 12 months and liabilities of HK$53.4b due beyond that. On the other hand, it had cash of HK$2.16b and HK$3.66b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$61.9b.

This deficit is considerable relative to its very significant market capitalization of HK$80.9b, so it does suggest shareholders should keep an eye on HKT Trust and HKT's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

HKT Trust and HKT's debt is 4.7 times its EBITDA, and its EBIT cover its interest expense 6.1 times over. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Unfortunately, HKT Trust and HKT saw its EBIT slide 3.9% in the last twelve months. If that earnings trend continues then its debt load will grow heavy like the heart of a polar bear watching its sole cub. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine HKT Trust and HKT's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. During the last three years, HKT Trust and HKT produced sturdy free cash flow equating to 79% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

Neither HKT Trust and HKT's ability handle its debt, based on its EBITDA, nor its level of total liabilities gave us confidence in its ability to take on more debt. But its conversion of EBIT to free cash flow tells a very different story, and suggests some resilience. Looking at all the angles mentioned above, it does seem to us that HKT Trust and HKT is a somewhat risky investment as a result of its debt. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with HKT Trust and HKT , and understanding them should be part of your investment process.

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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