Here’s why Hopson Development Holdings (HKG: 754) has a heavy debt burden

David Iben put it well when he said, “Volatility is not a risk we care about. What matters to us is to avoid the permanent loss of capital. ‘ It is only natural to consider a company’s balance sheet when considering how risky it is, as debt is often involved when a business collapses. Like many other companies Hopson Development Holdings Limited (HKG: 754) uses debt. But the most important question is: what risk does this debt create?

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company cannot repay it easily, either by raising capital or with its own cash flow. In the worst case scenario, a business can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that he has to raise new equity at low cost, thereby constantly diluting shareholders. Of course, debt can be an important tool in businesses, especially capital intensive businesses. The first step in examining a business’s debt levels is to consider its cash flow and debt together.

Check out our latest review for Hopson Development Holdings

What is the debt of Hopson Development Holdings?

The image below, which you can click for more details, shows that as of June 2021, Hopson Development Holdings was in debt of HK $ 129.4 billion, up from HK $ 98.6 billion in one year. . However, because it has a cash reserve of HK $ 66.9 billion, its net debt is less, at around HK $ 62.5 billion.

SEHK: 754 History of debt to equity December 6, 2021

A look at the liabilities of Hopson Development Holdings

According to the latest published balance sheet, Hopson Development Holdings had liabilities of HK $ 120.3 billion due within 12 months and liabilities of HK $ 103.1 billion due beyond 12 months. On the other hand, he had HK $ 66.9 billion in cash and HK $ 10.4 billion in receivables due within one year. Thus, its liabilities exceed the sum of its cash and (short-term) receivables by HK $ 146.2 billion.

This deficit casts a shadow over the HK $ 43.7 billion company like a towering colossus of mere mortals. So we would be watching its record closely, without a doubt. After all, Hopson Development 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).

Hopson Development Holdings has a net debt over EBITDA of 3.1 which suggests that it is using a little leverage to increase returns. But the high interest coverage of 9.1 suggests that he can easily pay off that debt. It should be noted that Hopson Development Holdings’ EBIT has soared like bamboo after the rain, gaining 96% 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 it is future earnings, more than anything, that will determine Hopson Development Holdings’ ability to maintain a healthy balance sheet going forward. So if you are focused on the future you can check this out free report showing analysts’ earnings forecasts.

But our last consideration is also important, because a business cannot pay its debts with paper profits; he needs hard cash. We therefore always check how much of this EBIT is converted into free cash flow. Over the past three years, Hopson Development Holdings has experienced substantial total negative free cash flow. While investors no doubt expect this situation to reverse in due course, this clearly means its use of debt is riskier.

Our point of view

At first glance, Hopson Development Holdings’ EBIT conversion to free cash flow left us hesitant about the stock, and its total liability level was no more appealing than the single empty restaurant on the busiest night of the year. But on the bright side, its EBIT growth rate is a good sign and makes us more optimistic. Looking at the big picture, it seems clear to us that Hopson Development Holdings’ use of debt creates risks for the business. If all goes well it may pay off, but the downside to this debt is a greater 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. Concrete example: we have spotted 4 warning signs for Hopson Development Holdings you need to be aware of it, and one of them is a bit of concern.

At the end of the day, sometimes it’s easier to focus on businesses that don’t even need to go into debt. Readers can access a list of growth stocks with zero net debt 100% free, at present.

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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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John A. Bogar