Is Future Data Group (HKG:8229) A Risky Investment?
Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 can see that Future Data Group Limited (HKG:8229) does use debt in its business. But is this debt a concern to shareholders?
When Is Debt A Problem?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.
Check out our latest analysis for Future Data Group
How Much Debt Does Future Data Group Carry?
The image below, which you can click on for greater detail, shows that Future Data Group had debt of HK$20.6m at the end of December 2019, a reduction from HK$23.2m over a year. However, its balance sheet shows it holds HK$120.4m in cash, so it actually has HK$99.8m net cash.
How Strong Is Future Data Group's Balance Sheet?
We can see from the most recent balance sheet that Future Data Group had liabilities of HK$168.6m falling due within a year, and liabilities of HK$1.84m due beyond that. On the other hand, it had cash of HK$120.4m and HK$109.1m worth of receivables due within a year. So it actually has HK$59.0m more liquid assets than total liabilities.
This surplus strongly suggests that Future Data Group has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this view, lenders should feel as safe as the beloved of a black-belt karate master. Succinctly put, Future Data Group boasts net cash, so it's fair to say it does not have a heavy debt load!
Importantly, Future Data Group's EBIT fell a jaw-dropping 92% in the last twelve months. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Future Data Group will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Future Data Group has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, Future Data Group actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.
Summing up
While we empathize with investors who find debt concerning, the bottom line is that Future Data Group has net cash of HK$99.8m and plenty of liquid assets. And it impressed us with free cash flow of -HK$7.8m, being 364% of its EBIT. So we are not troubled with Future Data Group's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Consider for instance, the ever-present spectre of investment risk. We've identified 4 warning signs with Future Data Group (at least 3 which can't be ignored) , and understanding them should be part of your investment process.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.
