Is Hilan (TLV:HLAN) A Risky Investment?

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.' 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. We note that Hilan Ltd. (TLV:HLAN) does have debt on its balance sheet. But is this debt a concern to shareholders?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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 Hilan

What Is Hilan's Net Debt?

The chart below, which you can click on for greater detail, shows that Hilan had ₪166.8m in debt in September 2020; about the same as the year before. However, because it has a cash reserve of ₪136.1m, its net debt is less, at about ₪30.7m.

How Strong Is Hilan's Balance Sheet?

We can see from the most recent balance sheet that Hilan had liabilities of ₪556.1m falling due within a year, and liabilities of ₪241.3m due beyond that. Offsetting this, it had ₪136.1m in cash and ₪536.7m in receivables that were due within 12 months. So it has liabilities totalling ₪124.7m more than its cash and near-term receivables, combined.

Since publicly traded Hilan shares are worth a total of ₪3.47b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Carrying virtually no net debt, Hilan has a very light debt load indeed.

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). 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).

Hilan's net debt is only 0.15 times its EBITDA. And its EBIT covers its interest expense a whopping 25.2 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Fortunately, Hilan grew its EBIT by 4.8% in the last year, making that debt load look even more manageable. When analysing debt levels, the balance sheet is the obvious place to start. But it is Hilan's earnings that will influence how the balance sheet holds up in the future. 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. So we always check how much of that EBIT is translated into free cash flow. During the last three years, Hilan generated free cash flow amounting to a very robust 95% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Our View

The good news is that Hilan's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. And the good news does not stop there, as its conversion of EBIT to free cash flow also supports that impression! Looking at the bigger picture, we think Hilan's use of debt seems quite reasonable and we're not concerned about it. While debt does bring risk, when used wisely it can also bring a higher return on equity. Over time, share prices tend to follow earnings per share, so if you're interested in Hilan, you may well want to click here to check an interactive graph of its earnings per share history.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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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