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 can see that F J Benjamin Holdings Ltd (SGX:F10) does use debt in its business. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.
How Much Debt Does F J Benjamin Holdings Carry?
As you can see below, F J Benjamin Holdings had S$19.4m of debt, at December 2020, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has S$8.96m in cash leading to net debt of about S$10.5m.
How Healthy Is F J Benjamin Holdings' Balance Sheet?
The latest balance sheet data shows that F J Benjamin Holdings had liabilities of S$49.1m due within a year, and liabilities of S$11.4m falling due after that. On the other hand, it had cash of S$8.96m and S$23.6m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by S$27.9m.
This is a mountain of leverage relative to its market capitalization of S$32.0m. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since F J Benjamin Holdings will need earnings to service that debt. 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.
In the last year F J Benjamin Holdings had a loss before interest and tax, and actually shrunk its revenue by 45%, to S$69m. That makes us nervous, to say the least.
While F J Benjamin 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. Indeed, it lost a very considerable S$12m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. For example, we would not want to see a repeat of last year's loss of S$19m. So in short it's a really risky stock. 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 be aware of the 4 warning signs we've spotted with F J Benjamin Holdings .
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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