Is Directel Holdings (HKG:8337) A Risky Investment?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. As with many other companies Directel Holdings Limited (HKG:8337) makes use of debt. But the more important question is: how much risk is that debt creating?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Directel Holdings

What Is Directel Holdings's Debt?

As you can see below, at the end of June 2024, Directel Holdings had HK$12.1m of debt, up from none a year ago. Click the image for more detail. But it also has HK$25.1m in cash to offset that, meaning it has HK$13.1m net cash.

A Look At Directel Holdings' Liabilities

Zooming in on the latest balance sheet data, we can see that Directel Holdings had liabilities of HK$18.9m due within 12 months and liabilities of HK$462.0k due beyond that. Offsetting this, it had HK$25.1m in cash and HK$16.9m in receivables that were due within 12 months. So it can boast HK$22.6m more liquid assets than total liabilities.

This surplus strongly suggests that Directel Holdings has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Directel Holdings has more cash than debt is arguably a good indication that it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But it is Directel 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.

Over 12 months, Directel Holdings made a loss at the EBIT level, and saw its revenue drop to HK$143m, which is a fall of 6.3%. That's not what we would hope to see.

So How Risky Is Directel Holdings?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And the fact is that over the last twelve months Directel Holdings lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of HK$963k and booked a HK$9.6m accounting loss. But the saving grace is the HK$13.1m on the balance sheet. That kitty means the company can keep spending for growth for at least two years, at current rates. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Directel Holdings (of which 1 is concerning!) you should know about.

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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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.