In This Article:
David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital. So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies S E A Holdings Limited (HKG:251) makes use of debt. But should shareholders be worried about its use of debt?
What Risk Does Debt Bring?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.
See our latest analysis for S E A Holdings
What Is S E A Holdings's Net Debt?
The chart below, which you can click on for greater detail, shows that S E A Holdings had HK$13.9b in debt in June 2019; about the same as the year before. On the flip side, it has HK$7.93b in cash leading to net debt of about HK$5.93b.
How Healthy Is S E A Holdings's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that S E A Holdings had liabilities of HK$7.71b due within 12 months and liabilities of HK$6.62b due beyond that. Offsetting these obligations, it had cash of HK$7.93b as well as receivables valued at HK$5.59m due within 12 months. So it has liabilities totalling HK$6.39b more than its cash and near-term receivables, combined.
Given this deficit is actually higher than the company's market capitalization of HK$5.40b, we think shareholders really should watch S E A Holdings's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).