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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that SUNeVision Holdings Ltd. (HKG:1686) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
Our free stock report includes 2 warning signs investors should be aware of before investing in SUNeVision Holdings. Read for free now.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. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
How Much Debt Does SUNeVision Holdings Carry?
As you can see below, at the end of December 2024, SUNeVision Holdings had HK$17.2b of debt, up from HK$15.1b a year ago. Click the image for more detail. However, because it has a cash reserve of HK$516.9m, its net debt is less, at about HK$16.7b.
A Look At SUNeVision Holdings' Liabilities
According to the last reported balance sheet, SUNeVision Holdings had liabilities of HK$1.70b due within 12 months, and liabilities of HK$17.8b due beyond 12 months. On the other hand, it had cash of HK$516.9m and HK$667.6m worth of receivables due within a year. So its liabilities total HK$18.3b more than the combination of its cash and short-term receivables.
This is a mountain of leverage relative to its market capitalization of HK$24.8b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.
See our latest analysis for SUNeVision Holdings
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).
SUNeVision Holdings has a rather high debt to EBITDA ratio of 9.4 which suggests a meaningful debt load. However, its interest coverage of 5.8 is reasonably strong, which is a good sign. If SUNeVision Holdings can keep growing EBIT at last year's rate of 13% over the last year, then it will find its debt load easier to manage. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if SUNeVision Holdings can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, SUNeVision Holdings saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.
Our View
To be frank both SUNeVision Holdings's net debt to EBITDA and its track record of converting EBIT to free cash flow make us rather uncomfortable with its debt levels. But on the bright side, its EBIT growth rate is a good sign, and makes us more optimistic. Looking at the bigger picture, it seems clear to us that SUNeVision Holdings's use of debt is creating risks for the company. If everything goes well that may pay off but the downside of this debt is a greater risk of permanent losses. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that SUNeVision Holdings is showing 2 warning signs in our investment analysis , you should know about...
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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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.