Warren Buffett famously said, “Volatility is not synonymous with risk.” So when you think about the risk of a particular stock, it might be obvious that you need to consider debt. Because too much debt can sink a company. Like many other companies, Henan Rebecca Hair Products Co., Ltd. (SHSE:600439) uses debt. But should shareholders be worried about its use of debt?
Why does debt pose a risk?
Debt and other liabilities become a risk to a company if it cannot easily meet those obligations through free cash flow or by raising capital at an attractive price. If the situation gets too bad, lenders may take control of your business. But a more common (but still expensive) situation is when a company needs to dilute shareholders at a cheap share price just to manage its debt. Having said that, the most common situation is one in which a company manages its debt reasonably well and to its own advantage. When investigating debt levels, we first consider both cash and debt levels together.
Check out the latest analysis of Henan Rebecca Hair Products.
What is Henan Rebecca Hair Products’ debt?
Click on the image below for more information, but as of June 2024, Henan Rebecca Hair Products had debt of CA$2.32b, an increase from CA$2.21b over one year. You can see that. However, it does have CA$847.6m in cash, so its net debt is less than that, at around CA$1.48b.
SHSE:600439 Debt to Equity History October 24, 2024
Looking back on the responsibilities of Henan Rebecca Hair Products
The most recent balance sheet shows that Henan Rebecca Hair Products had liabilities of CA$2.45b falling due within a year, and liabilities of CA$35.9m falling due beyond that. On the other hand, the company had cash of CA$847.6m and receivables valued at CA$326.1m due within a year. So its liabilities total CA$1.31b more than its cash and short-term receivables, combined.
Henan Rebecca Hair Products has a market capitalization of CA$4.15b, so it’s very likely that it will raise cash to shore up its balance sheet if the need arises. However, it’s still worth carefully considering the company’s ability to repay its debt.
To determine how much debt a company has 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, tax, and amortization (EBIT) divided by its interest expense. (its interest cover). The advantage of this approach is that it takes into account both the absolute amount of debt (net debt to EBITDA) and the actual interest expense associated with that debt (interest cover ratio).
Weak interest cover of 2.1x and disturbingly high net debt to EBITDA ratio of 10.9 crushed our confidence in Henan Rebecca Hair Products like a one-two punch to the gut. This means that you are likely to be in a lot of debt. On the bright side, Henan Rebecca Hair Products grew its EBIT by a strong 73% in the last year. Like the milk of human kindness, this kind of growth builds resilience and increases a company’s ability to manage its debt. When analyzing debt levels, the balance sheet is the obvious place to start. However, it is Henan Rebecca Hair Products’ earnings that will influence how its balance sheet holds up in the future. So if you are keen to discover more about the company’s earnings, it might be worth checking this graph of its long-term earnings trend.
Finally, companies can only pay off debt with cold hard cash, not accounting profits. So it’s clear that we need to check whether that EBIT is leading to corresponding free cash flow. Over the last three years, Henan Rebecca Hair Products actually generated more free cash flow than EBIT. There’s nothing better than having cash coming in to stay in lenders’ good graces.
our view
Henan Rebecca Hair Products’ conversion of its EBIT to free cash flow suggests that it can handle its debt as easily as Cristiano Ronaldo scores goals from his Under-14 goalkeepers. But the hard truth is that we’re concerned about its net debt to EBITDA. Taking all of the aforementioned factors together, we can see that Henan Rebecca Hair Products Co. can handle its debt fairly easily. Of course, this leverage can improve return on equity, but it also brings more risk, so it’s worth noting this. There’s no question that we learn most about debt from the balance sheet. But ultimately, any company can contain risks that exist outside the balance sheet. For example, we’ve discovered 4 warning signs for Henan Rebecca Hair Products (2 can’t be ignored!) that you should be aware of before investing here.
If you’re more interested in fast-growing companies with rock-solid balance sheets, then check out our list of net cash growth stocks without delay.
Evaluation is complex, but we will simplify it here.
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This article by Simply Wall St is general in nature. We provide commentary using only unbiased methodologies, based on historical data and analyst forecasts, and articles are not intended to be financial advice. This is not a recommendation to buy or sell any stock, and does not take into account your objectives or financial situation. We aim to provide long-term, focused analysis based on fundamental data. Note that our analysis may not factor in the latest announcements or qualitative material from price-sensitive companies. Simply Wall St has no position in any stocks mentioned.
