Towngas Smart Energy (HKG:1083) Seems To Be Using A Lot Of Debt

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 Towngas Smart Energy Company Limited (HKG:1083) does have debt on its balance sheet. But is this debt a concern to shareholders?

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Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own 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 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.

How Much Debt Does Towngas Smart Energy Carry?

As you can see below, Towngas Smart Energy had HK$18.2b of debt, at June 2025, which is about the same as the year before. You can click the chart for greater detail. However, it does have HK$3.33b in cash offsetting this, leading to net debt of about HK$14.9b.

A Look At Towngas Smart Energy's Liabilities

According to the last reported balance sheet, Towngas Smart Energy had liabilities of HK$16.0b due within 12 months, and liabilities of HK$12.6b due beyond 12 months. On the other hand, it had cash of HK$3.33b and HK$3.46b worth of receivables due within a year. So it has liabilities totalling HK$21.8b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the HK$13.9b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Towngas Smart Energy would likely require a major re-capitalisation if it had to pay its creditors today.

See our latest analysis for Towngas Smart Energy

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

With a net debt to EBITDA ratio of 5.0, it's fair to say Towngas Smart Energy does have a significant amount of debt. However, its interest coverage of 3.0 is reasonably strong, which is a good sign. Notably, Towngas Smart Energy's EBIT was pretty flat over the last year, which isn't ideal given the debt load. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Towngas Smart Energy's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Towngas Smart Energy 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.

Our View

To be frank both Towngas Smart Energy's level of total liabilities and its track record of converting EBIT to free cash flow make us rather uncomfortable with its debt levels. Having said that, its ability to grow its EBIT isn't such a worry. We should also note that Gas Utilities industry companies like Towngas Smart Energy commonly do use debt without problems. Taking into account all the aforementioned factors, it looks like Towngas Smart Energy has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. 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. For instance, we've identified 2 warning signs for Towngas Smart Energy (1 can't be ignored) you should be aware of.

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.