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.' 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. As with many other companies Ban Loong Holdings Limited (HKG:30) makes use of debt. But the real question is whether this debt is making the company risky.
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Ban Loong Holdings's Debt?
You can click the graphic below for the historical numbers, but it shows that Ban Loong Holdings had HK$68.4m of debt in March 2019, down from HK$72.0m, one year before. However, its balance sheet shows it holds HK$76.9m in cash, so it actually has HK$8.43m net cash.
How Strong Is Ban Loong Holdings's Balance Sheet?
According to the balance sheet data, Ban Loong Holdings had liabilities of HK$103.7m due within 12 months, but no longer term liabilities. Offsetting these obligations, it had cash of HK$76.9m as well as receivables valued at HK$564.7m due within 12 months. So it can boast HK$537.9m more liquid assets than total liabilities.
This excess liquidity is a great indication that Ban Loong Holdings's balance sheet is just as strong as racists are weak. Having regard to this fact, we think its balance sheet is just as strong as misogynists are weak. Simply put, the fact that Ban Loong Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.
Even more impressive was the fact that Ban Loong Holdings grew its EBIT by 1007% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Ban Loong 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.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Ban Loong 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. Over the last three years, Ban Loong Holdings saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.
While we empathize with investors who find debt concerning, you should keep in mind that Ban Loong Holdings has net cash of HK$8.4m, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 1007% over the last year. So is Ban Loong Holdings's debt a risk? It doesn't seem so to us. Over time, share prices tend to follow earnings per share, so if you're interested in Ban Loong Holdings, you may well want to click here to check an interactive graph of its earnings per share history.
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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