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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Haitian International Holdings Limited (HKG:1882) does use debt in its business. But the more important question is: how much risk is that debt creating?
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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.
View our latest analysis for Haitian International Holdings
The image below, which you can click on for greater detail, shows that at June 2021 Haitian International Holdings had debt of CN¥1.34b, up from CN¥1.24b in one year. But it also has CN¥8.26b in cash to offset that, meaning it has CN¥6.91b net cash.
Zooming in on the latest balance sheet data, we can see that Haitian International Holdings had liabilities of CN¥9.17b due within 12 months and liabilities of CN¥508.1m due beyond that. Offsetting this, it had CN¥8.26b in cash and CN¥3.91b in receivables that were due within 12 months. So it can boast CN¥2.49b more liquid assets than total liabilities.
This short term liquidity is a sign that Haitian International Holdings could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Haitian International Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.
In addition to that, we're happy to report that Haitian International Holdings has boosted its EBIT by 63%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Haitian International Holdings's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Haitian International Holdings 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. During the last three years, Haitian International Holdings generated free cash flow amounting to a very robust 85% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.
While it is always sensible to investigate a company's debt, in this case Haitian International Holdings has CN¥6.91b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 85% of that EBIT to free cash flow, bringing in CN¥2.4b. So is Haitian International Holdings's debt a risk? It doesn't seem so to us. 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. Be aware that Haitian International Holdings is showing 1 warning sign in our investment analysis , you should know about…
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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