Is China International Holdings (SGX:BEH) Using Too Much Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. Importantly, China International Holdings Limited (SGX:BEH) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for China International Holdings

What Is China International Holdings's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2020 China International Holdings had CN¥105.0m of debt, an increase on CN¥95.2m, over one year. However, it does have CN¥143.4m in cash offsetting this, leading to net cash of CN¥38.4m.

How Strong Is China International Holdings's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that China International Holdings had liabilities of CN¥225.2m due within 12 months and liabilities of CN¥89.4m due beyond that. On the other hand, it had cash of CN¥143.4m and CN¥206.2m worth of receivables due within a year. So it actually has CN¥35.0m more liquid assets than total liabilities.

This surplus strongly suggests that China International Holdings has a rock-solid balance sheet (and the debt is of no concern whatsoever). Having regard to this fact, we think its balance sheet is just as strong as misogynists are weak. Simply put, the fact that China International Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Better yet, China International Holdings grew its EBIT by 267% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since China International Holdings 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. China International Holdings may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, China International Holdings burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing up

While it is always sensible to investigate a company's debt, in this case China International Holdings has CN¥38.4m in net cash and a decent-looking balance sheet. And we liked the look of last year's 267% year-on-year EBIT growth. So we don't think China International Holdings's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 2 warning signs for China International Holdings you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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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