Is Shenzhen International Holdings (HKG: 152) Using Too Much Debt?
Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett said “volatility is far from risk.” 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. We notice that Shenzhen International Holdings Limited (HKG: 152) has debt on its balance sheet. But should shareholders be concerned about its use of debt?
When is debt dangerous?
Debts and other liabilities become risky for a business when it cannot easily meet these obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a business can go bankrupt if it cannot pay its creditors. 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. That said, the most common situation is where a business manages its debt reasonably well – and to its own advantage. When we think of a business’s use of debt, we first look at cash flow and debt together.
See our latest analysis for Shenzhen International Holdings
What is the debt of Shenzhen International Holdings?
You can click on the graph below for historical figures, but it shows that as of June 2021, Shenzhen International Holdings had a debt of HK $ 39.3 billion, an increase from HK $ 31.3 billion. $, over one year. However, he has HK $ 15.2 billion in cash to compensate for this, which leads to net debt of around HK $ 24.1 billion.
A look at the liabilities of Shenzhen International Holdings
The latest balance sheet data shows that Shenzhen International Holdings had HK $ 38.5 billion in liabilities due within one year, and HK $ 22.9 billion in liabilities due thereafter. In compensation for these obligations, he had cash of HK $ 15.2 billion as well as receivables valued at HK $ 6.62 billion maturing within 12 months. Thus, its liabilities exceed the sum of its cash and (short-term) receivables by HK $ 39.6 billion.
This deficit casts a shadow over the HK $ 18.3 billion society like a towering colossus of mere mortals. We would therefore monitor its record closely, without a doubt. After all, Shenzhen International Holdings would likely need a major recapitalization if it were to pay its creditors today.
We measure a company’s indebtedness relative to its earning power by looking at its net debt divided by its earnings before interest, taxes, depreciation, and amortization (EBITDA) and calculating the ease with which its earnings before interest and taxes (EBIT ) covers its interests. costs (interest coverage). The advantage of this approach is that we take into account both the absolute amount of debt (with net debt compared to EBITDA) and the actual interest charges associated with this debt (with its coverage rate). interests).
With a debt to EBITDA ratio of 2.5, Shenzhen International Holdings uses debt smartly but responsibly. And the fact that her last twelve months of EBIT was 9.9 times her interest expense ties in with that theme. It should be noted that Shenzhen International Holdings’ EBIT has skyrocketed after the rain, gaining 74% in the past twelve months. This will make it easier to manage your debt. The balance sheet is clearly the area to focus on when analyzing debt. But ultimately, the company’s future profitability will decide whether Shenzhen International Holdings can strengthen its balance sheet over time. So, if you want to see what the professionals think, you might find this free Analyst Profit Forecast report interesting.
Finally, a business needs free cash flow to pay off debts; accounting profits are not enough. We must therefore clearly examine whether this EBIT leads to the corresponding free cash flow. In the past three years, Shenzhen International Holdings has spent a lot of money. While this may be the result of spending for growth, it makes debt much riskier.
Our point of view
To be frank, Shenzhen International Holdings’ EBIT conversion to free cash flow and its track record of controlling its total liabilities makes us rather uncomfortable with its leverage levels. But at least it’s decent enough to increase your EBIT; it’s encouraging. It should also be noted that companies in the infrastructure sector like Shenzhen International Holdings generally use debt without a problem. Looking at the balance sheet and taking all of these factors into account, we think debt makes Shenzhen International Holdings stock a bit risky. Some people like this kind of risk, but we are aware of the potential pitfalls, so we would probably prefer him to carry less debt. The balance sheet is clearly the area to focus on when analyzing debt. But at the end of the day, every business can contain risks that exist off the balance sheet. For example, we have identified 5 warning signs for Shenzhen International Holdings (1 is not doing too well with us) you should be aware of.
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.
Do you have any feedback on this item? Are you worried about the content? Get in touch with us directly. You can also send an email to the editorial team (at) simplywallst.com.
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.