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. It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Sun Hing Vision Group Holdings Limited (HKG:125) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?
Why Does Debt Bring Risk?
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. If things get really bad, the lenders can take control of the business. 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. 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.
What Is Sun Hing Vision Group Holdings's Net Debt?
You can click the graphic below for the historical numbers, but it shows that Sun Hing Vision Group Holdings had HK$45.5m of debt in September 2019, down from HK$47.5m, one year before. However, its balance sheet shows it holds HK$328.5m in cash, so it actually has HK$282.9m net cash.
How Healthy Is Sun Hing Vision Group Holdings's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Sun Hing Vision Group Holdings had liabilities of HK$270.2m due within 12 months and liabilities of HK$25.8m due beyond that. Offsetting these obligations, it had cash of HK$328.5m as well as receivables valued at HK$245.9m due within 12 months. So it actually has HK$278.4m more liquid assets than total liabilities.
This luscious liquidity implies that Sun Hing Vision Group Holdings's balance sheet is sturdy like a giant sequoia tree. Having regard to this fact, we think its balance sheet is just as strong as misogynists are weak. Simply put, the fact that Sun Hing Vision Group Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.
It is just as well that Sun Hing Vision Group Holdings's load is not too heavy, because its EBIT was down 67% over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Sun Hing Vision Group Holdings's earnings that will influence how the balance sheet holds up in the future. 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. Sun Hing Vision Group 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, Sun Hing Vision Group Holdings generated free cash flow amounting to a very robust 94% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.
While we empathize with investors who find debt concerning, you should keep in mind that Sun Hing Vision Group Holdings has net cash of HK$282.9m, as well as more liquid assets than liabilities. The cherry on top was that in converted 94% of that EBIT to free cash flow, bringing in HK$53m. So is Sun Hing Vision Group Holdings's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Consider for instance, the ever-present spectre of investment risk. We've identified 5 warning signs with Sun Hing Vision Group Holdings (at least 1 which is potentially serious) , and understanding them should be part of your investment process.
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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.
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