Hang Lung Properties (HKG:101) has a somewhat strained balance sheet

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett said “volatility is far from synonymous with risk.” So it seems smart money knows that debt – which is usually involved in bankruptcies – is a very important factor when you’re assessing a company’s risk. We can see that Hang Lung Properties Limited (Hong Kong:101) uses debt in his business. But should shareholders worry about its use of debt?

Why is debt risky?

Debt helps a business until the business struggles to pay it back, either with new capital or with free cash flow. If things go really bad, lenders can take over the business. However, a more common (but still costly) event is when a company has to issue stock at bargain prices, permanently diluting shareholders, just to shore up its balance sheet. That said, the most common situation is when a company manages its debt reasonably well – and to its own benefit. The first thing to do when considering how much debt a business has is to look at its cash and debt together.

Check opportunities and risks within the Hong Kong real estate industry.

How much debt does Hang Lung Properties have?

As you can see below, at the end of June 2022, Hang Lung Properties had HK$44.9 billion in debt, up from HK$41.7 billion a year ago. Click on the image for more details. On the other hand, he has HK$4.64 billion in cash, resulting in a net debt of around HK$40.3 billion.

SEHK: 101 Debt to Equity History October 30, 2022

A Look at the Liabilities of Hang Lung Properties

Zooming in on the latest balance sheet data, we can see that Hang Lung Properties had liabilities of HK$13.7 billion due within 12 months and liabilities of HK$55.0 billion due beyond. As compensation for these obligations, it had cash of HK$4.64 billion and receivables valued at HK$3.51 billion due within 12 months. Thus, its liabilities total HK$60.5 billion more than the combination of its cash and short-term receivables.

Given that this deficit is actually larger than the company’s market capitalization of HK$46.4 billion, we think shareholders really should be watching Hang Lung Properties’ debt levels, like a parent watching their child. riding a bike for the first time. In the scenario where the company were to quickly clean up its balance sheet, it seems likely that shareholders would suffer significant dilution.

We use two main ratios to inform us about debt to earnings levels. The first is net debt divided by earnings before interest, taxes, depreciation and amortization (EBITDA), while the second is how often its earnings before interest and taxes (EBIT) covers its interest expense (or its interests, for short). The advantage of this approach is that we consider both the absolute amount of debt (with net debt to EBITDA) and the actual interest expense associated with that debt (with its interest coverage ratio ).

Strangely, Hang Lung Properties has a sky-high EBITDA ratio of 5.8, implying high debt, but high interest coverage of 17.4. This means that unless the company has access to very cheap debt, these interest charges will likely increase in the future. Hang Lung Properties increased its EBIT by 4.6% over the past year. It’s far from amazing, but it’s a good thing when it comes to paying down 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 Hang Lung Properties’ ability to maintain a healthy balance sheet in the future. So if you are focused on the future, you can check out this free report showing analyst earnings forecasts.

Finally, a company can only repay its debts with cold hard cash, not with book profits. It is therefore worth checking how much of this EBIT is supported by free cash flow. Over the past three years, Hang Lung Properties has recorded free cash flow of 58% of its EBIT, which is about normal given that free cash flow excludes interest and taxes. This free cash flow puts the company in a good position to repay its debt, should it arise.

Our point of view

At first glance, Hang Lung Properties’ level of total liabilities left us hesitant about the stock, and its net debt to EBITDA was no more attractive than the single empty restaurant on the busiest night of the year. . But on the bright side, its interest coverage is a good sign and makes us more optimistic. Once we consider all of the above factors together, it seems to us that Hang Lung Properties’ debt makes it a bit risky. This isn’t necessarily a bad thing, but we would generally feel more comfortable with less leverage. There is no doubt that we learn the most about debt from the balance sheet. But at the end of the day, every business can contain risks that exist outside of the balance sheet. Example: we have identified 1 warning sign for Hang Lung Properties you should be aware.

If you are interested in investing in companies that can generate profits without the burden of debt, then check out this free list of growing companies that have net cash on the balance sheet.

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Find out if Hanging Lung Properties is potentially overvalued or undervalued by viewing our full analysis, which includes fair value estimates, risks and warnings, dividends, insider trading and financial health.

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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.

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