Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Keck Seng Investments (Hong Kong) Limited (HKG:184) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
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. If things get really bad, the lenders can take control of the business. 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. The first step when considering a company's debt levels is to consider its cash and debt together.
How Much Debt Does Keck Seng Investments (Hong Kong) Carry?
As you can see below, Keck Seng Investments (Hong Kong) had HK$1.67b of debt, at December 2018, which is about the same the year before. You can click the chart for greater detail. However, it does have HK$1.83b in cash offsetting this, leading to net cash of HK$164.8m.
A Look At Keck Seng Investments (Hong Kong)'s Liabilities
We can see from the most recent balance sheet that Keck Seng Investments (Hong Kong) had liabilities of HK$590.6m falling due within a year, and liabilities of HK$1.59b due beyond that. On the other hand, it had cash of HK$1.83b and HK$94.3m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$259.3m.
Since publicly traded Keck Seng Investments (Hong Kong) shares are worth a total of HK$1.64b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Keck Seng Investments (Hong Kong) also has more cash than debt, so we're pretty confident it can manage its debt safely.
But the other side of the story is that Keck Seng Investments (Hong Kong) saw its EBIT decline by 2.5% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Keck Seng Investments (Hong Kong)'s earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. Keck Seng Investments (Hong Kong) 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. Over the last three years, Keck Seng Investments (Hong Kong) recorded free cash flow worth a fulsome 92% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.
While Keck Seng Investments (Hong Kong) does have more liabilities than liquid assets, it also has net cash of HK$165m. And it impressed us with free cash flow of HK$272m, being 92% of its EBIT. So we are not troubled with Keck Seng Investments (Hong Kong)'s debt use. Of course, we wouldn't say no to the extra confidence that we'd gain if we knew that Keck Seng Investments (Hong Kong) insiders have been buying shares: if you're on the same wavelength, you can find out if insiders are buying by clicking this link.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.