Is Sakae Holdings (SGX:5DO) Using Too Much Debt?

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Sakae Holdings Ltd. (SGX:5DO) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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 think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Sakae Holdings

What Is Sakae Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that Sakae Holdings had debt of S$44.1m at the end of September 2020, a reduction from S$49.2m over a year. On the flip side, it has S$8.71m in cash leading to net debt of about S$35.4m.

How Healthy Is Sakae Holdings's Balance Sheet?

We can see from the most recent balance sheet that Sakae Holdings had liabilities of S$55.5m falling due within a year, and liabilities of S$21.4m due beyond that. On the other hand, it had cash of S$8.71m and S$3.77m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by S$64.4m.

The deficiency here weighs heavily on the S$19.8m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Sakae Holdings would probably need a major re-capitalization if its creditors were to demand repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Sakae Holdings'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.

Over 12 months, Sakae Holdings made a loss at the EBIT level, and saw its revenue drop to S$28m, which is a fall of 37%. To be frank that doesn't bode well.

Caveat Emptor

While Sakae Holdings's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Its EBIT loss was a whopping S$9.3m. Combining this information with the significant liabilities we already touched on makes us very hesitant about this stock, to say the least. That said, it is possible that the company will turn its fortunes around. But on the bright side the company actually produced a statutory profit of S$277k and free cash flow of S$7.5m. So there is arguably potential that the company is going to turn things around. There's no doubt that we learn most about debt from the balance sheet. 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 Sakae Holdings (including 2 which is don't sit too well with us) .

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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