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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. We can see that SSY Group Limited (HKG:2005) does use debt in its business. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.
See our latest analysis for SSY Group
What Is SSY Group's Debt?
The image below, which you can click on for greater detail, shows that SSY Group had debt of HK$1.49b at the end of December 2018, a reduction from HK$1.75b over a year. On the flip side, it has HK$984.3m in cash leading to net debt of about HK$510.2m.
How Healthy Is SSY Group's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that SSY Group had liabilities of HK$1.40b due within 12 months and liabilities of HK$1.10b due beyond that. Offsetting this, it had HK$984.3m in cash and HK$1.35b in receivables that were due within 12 months. So it has liabilities totalling HK$167.3m more than its cash and near-term receivables, combined.
Having regard to SSY Group's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the HK$18.0b company is struggling for cash, we still think it's worth monitoring its balance sheet.
In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.
SSY Group has a low net debt to EBITDA ratio of only 0.36. And its EBIT easily covers its interest expense, being 30.2 times the size. So we're pretty relaxed about its super-conservative use of debt. On top of that, SSY Group grew its EBIT by 33% over the last twelve months, and that growth will make it easier to handle its debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine SSY Group's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.