Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 can see that Sky Light Holdings Limited (HKG:3882) does use debt in its business. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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. When we examine debt levels, we first consider both cash and debt levels, together.
Check out our latest analysis for Sky Light Holdings
What Is Sky Light Holdings's Debt?
You can click the graphic below for the historical numbers, but it shows that Sky Light Holdings had HK$21.3m of debt in June 2023, down from HK$23.9m, one year before. But it also has HK$82.3m in cash to offset that, meaning it has HK$60.9m net cash.
How Strong Is Sky Light Holdings' Balance Sheet?
The latest balance sheet data shows that Sky Light Holdings had liabilities of HK$200.2m due within a year, and liabilities of HK$15.4m falling due after that. On the other hand, it had cash of HK$82.3m and HK$66.0m worth of receivables due within a year. So its liabilities total HK$67.3m more than the combination of its cash and short-term receivables.
Since publicly traded Sky Light Holdings shares are worth a total of HK$1.27b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, Sky Light 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 it is Sky Light Holdings'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.
Over 12 months, Sky Light Holdings made a loss at the EBIT level, and saw its revenue drop to HK$295m, which is a fall of 55%. To be frank that doesn't bode well.
So How Risky Is Sky Light Holdings?
We have no doubt that loss making companies are, in general, riskier than profitable ones. And in the last year Sky Light Holdings had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of HK$60m and booked a HK$65m accounting loss. With only HK$60.9m on the balance sheet, it would appear that its going to need to raise capital again soon. Overall, we'd say the stock is a bit risky, and we're usually very cautious until we see positive free cash flow. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that Sky Light Holdings is showing 2 warning signs in our investment analysis , and 1 of those can't be ignored...
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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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.