Is Eggriculture Foods (HKG: 8609) a risky investment?

Berkshire Hathaway’s Charlie Munger-backed external fund manager Li Lu is quick to say this when he says “The biggest risk in investing is not price volatility, but if you will suffer a loss. permanent capital “. When we think about how risky a business is, we always like to look at its use of debt because debt overload can lead to bankruptcy. Like many other companies Aliments Eggriculture Ltd. (HKG: 8609) uses debt. But the real question is whether this debt makes the business risky.

When is Debt a Problem?

Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. If things really go wrong, lenders can take over the business. However, a more common (but still costly) event is when a company has to issue stock at bargain prices, constantly diluting shareholders, just to strengthen its balance sheet. Of course, many companies use debt to finance their growth without negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash flow and debt together.

See our latest review for Eggriculture Foods

How Much Debt Does Eggriculture Foods Carry?

As you can see below, at the end of September 2021, Eggriculture Foods was in debt of S $ 24.6 million, up from S $ 10.6 million a year ago. Click on the image for more details. However, he also had S $ 19.6 million in cash, so his net debt is S $ 5.01 million.

SEHK: 8609 History of debt to equity December 21, 2021

How healthy is Eggriculture Foods’ track record?

We can see from the most recent balance sheet that Eggriculture Foods had S $ 17.8 million liabilities due within one year, and S $ 21.6 million liabilities due beyond. . In compensation for these obligations, it had cash of S $ 19.6 million as well as receivables valued at S $ 9.52 million due within 12 months. It therefore has liabilities totaling S $ 10.2 million more than its cash and short-term receivables combined.

This shortfall is not that big of a deal as Eggriculture Foods is worth S $ 21.0 million and could therefore probably raise enough capital to consolidate its balance sheet, should the need arise. But we absolutely want to keep our eyes open for indications that its debt is too risky.

In order to measure a company’s debt relative to its profits, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its profit before interest and taxes (EBIT) divided by its interest. debtors (its interest coverage). Thus, we look at debt versus earnings with and without amortization expenses.

Looking at its net debt over EBITDA of 1.0 and its interest coverage of 6.3 times, it seems to us that Agriculture Foods is probably using debt in a fairly reasonable way. We therefore recommend that you keep a close eye on the impact of financing costs on the business. Its modesty in debt may become critical to Eggriculture Foods if management cannot prevent a repeat of the 52% reduction in EBIT over the past year. When it comes to paying down debt, lower income is no more helpful to your health than sugary sodas. There is no doubt that we learn the most about debt from the balance sheet. But you can’t look at debt in isolation; given that Eggriculture Foods will need revenue to pay off this debt. So if you want to know more about its profits, it may be worth checking out this long term profit trend chart.

Finally, a business needs free cash flow to pay off debts; accounting profits are not enough. It is therefore worth checking to what extent this EBIT is supported by free cash flow. Over the past three years, Eggriculture Foods has experienced total negative free cash flow. Debt is typically more expensive and almost always riskier in the hands of a business with negative free cash flow. Shareholders should hope for improvement.

Our point of view

To be frank, Eggriculture Foods’ EBIT conversion to free cash flow and its history of (non) EBIT growth makes us rather uncomfortable with its debt levels. But at least it manages its debt quite well, based on its EBITDA; it’s encouraging. Overall, we think it’s fair to say that Agriculture Foods has enough debt that there is real risk around the balance sheet. If all goes well it may pay off, but the downside to this debt is an increased risk of permanent losses. When analyzing debt levels, the balance sheet is the obvious place to start. However, not all investment risks lie on the balance sheet – far from it. These risks can be difficult to spot. Every business has them, and we’ve spotted 3 warning signs for Eggriculture Foods (1 of which is a bit disturbing!) that you should know about.

If you want to invest in companies that can generate profits without the burden of debt, check out this free list of growing companies that have net cash on the balance sheet.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only 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 into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in any of the stocks mentioned.

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