Does New Hoong Fatt Holdings Berhad (KLSE:NHFATT) Have A Healthy Balance Sheet?

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. We note that New Hoong Fatt Holdings Berhad (KLSE:NHFATT) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for New Hoong Fatt Holdings Berhad

What Is New Hoong Fatt Holdings Berhad's Net Debt?

As you can see below, New Hoong Fatt Holdings Berhad had RM35.5m of debt at September 2020, down from RM43.4m a year prior. However, it does have RM36.7m in cash offsetting this, leading to net cash of RM1.21m.

How Strong Is New Hoong Fatt Holdings Berhad's Balance Sheet?

We can see from the most recent balance sheet that New Hoong Fatt Holdings Berhad had liabilities of RM57.0m falling due within a year, and liabilities of RM41.5m due beyond that. On the other hand, it had cash of RM36.7m and RM57.0m worth of receivables due within a year. So its liabilities total RM4.75m more than the combination of its cash and short-term receivables.

Since publicly traded New Hoong Fatt Holdings Berhad shares are worth a total of RM181.1m, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, New Hoong Fatt Holdings Berhad also has more cash than debt, so we're pretty confident it can manage its debt safely.

In fact New Hoong Fatt Holdings Berhad's saving grace is its low debt levels, because its EBIT has tanked 47% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since New Hoong Fatt Holdings Berhad will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While New Hoong Fatt Holdings Berhad has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, New Hoong Fatt Holdings Berhad 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

We could understand if investors are concerned about New Hoong Fatt Holdings Berhad's liabilities, but we can be reassured by the fact it has has net cash of RM1.21m. The cherry on top was that in converted 112% of that EBIT to free cash flow, bringing in RM33m. So we don't have any problem with New Hoong Fatt Holdings Berhad's use of debt. 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. To that end, you should learn about the 4 warning signs we've spotted with New Hoong Fatt Holdings Berhad (including 1 which makes us a bit uncomfortable) .

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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