Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 note that ELL Environmental Holdings Limited (HKG:1395) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
When Is Debt Dangerous?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is ELL Environmental Holdings's Net Debt?
As you can see below, ELL Environmental Holdings had HK$42.7m of debt at December 2018, down from HK$45.7m a year prior. However, its balance sheet shows it holds HK$67.4m in cash, so it actually has HK$24.7m net cash.
How Healthy Is ELL Environmental Holdings's Balance Sheet?
The latest balance sheet data shows that ELL Environmental Holdings had liabilities of HK$48.8m due within a year, and liabilities of HK$52.8m falling due after that. Offsetting these obligations, it had cash of HK$67.4m as well as receivables valued at HK$45.4m due within 12 months. So it actually has HK$11.3m more liquid assets than total liabilities.
This short term liquidity is a sign that ELL Environmental Holdings could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, ELL Environmental Holdings boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since ELL Environmental 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 ELL Environmental Holdings's revenue was pretty flat. While that's not too bad, we'd prefer see growth.
So How Risky Is ELL Environmental Holdings?
While ELL Environmental Holdings lost money on an earnings before interest and tax (EBIT) level, it actually generated positive free cash flow HK$33m. So although it is loss-making, it doesn't seem to have too much near-term balance sheet risk, keeping in mind the net cash. We'll feel more comfortable with the stock once EBIT is positive, given the lacklustre revenue growth. When we look at a riskier company, we like to check how their profits (or losses) are trending over time. Today, we're providing readers this interactive graph showing how ELL Environmental Holdings's profit, revenue, and operating cashflow have changed over the last few years.
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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