Is Health and Happiness (H&H) International Holdings (HKG: 1112) a risky investment?

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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 risk.” So it can be obvious that you need to consider debt, when you think about how risky a given stock is, because too much debt can sink a business. Like many other companies Health and Happiness (H&H) International Holdings Limited (HKG: 1112) uses debt. But does this debt worry shareholders?

When is Debt a Problem?

Debts and other liabilities become risky for a business when it cannot easily meet these obligations, either with free cash flow or by raising capital at an attractive price. If things really go wrong, lenders can take over the business. While it’s not too common, we often see indebted companies continually diluting their shareholders because lenders are forcing them to raise capital at a ridiculous price. Of course, many companies use debt to finance their growth without negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash flow and debt together.

Check out our latest analysis for Health and Happiness (H&H) International Holdings

What is the debt of Health and Happiness (H&H) International Holdings?

As you can see below, Health and Happiness (H&H) International Holdings had CN 6.35 billion in debt as of June 2021, which is roughly the same as the year before. You can click on the graph for more details. On the other hand, he has CNN 1.97 billion in cash, resulting in net debt of around CNN 4.38 billion.

SEHK: 1112 Debt to equity history December 4, 2021

A look at International Holdings’ responsibilities for health and happiness (H&H)

According to the latest published balance sheet, Health and Happiness (H&H) International Holdings had CN 2.95 billion in liabilities due within 12 months and CN 7.45 billion in liabilities due beyond 12 months. On the other hand, he had CN 1.97 billion in cash and CNN 799.4 million in receivables due within one year. Its liabilities therefore total 7.63 billion CN more than the combination of its cash and short-term receivables.

Given that this deficit is actually greater than the company’s market cap of 7.07b CN, we think shareholders should really watch the debt levels of Health and Happiness (H&H) International Holdings, like a parent who watches her child ride a bicycle for the first time. Hypothetically, extremely high dilution would be required if the company were forced to repay its debts by raising capital at the current share price.

We use two main ratios to inform us about the levels of debt compared to earnings. The first is net debt divided by earnings before interest, taxes, depreciation, and amortization (EBITDA), while the second is the number of times its earnings before interest and taxes (EBIT) covers its interest expense (or its coverage of interest, for short). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.

Health and Happiness (H&H) International Holdings has a debt to EBITDA ratio of 2.5 and its EBIT covered its interest expense 6.2 times. Overall, this implies that while we wouldn’t like to see debt levels rise, we believe it can handle its current leverage. Unfortunately, Health and Happiness (H&H) International Holdings’ EBIT has fallen 14% in the past four quarters. If incomes continue to decline at this rate, it will be more difficult to manage debt than taking three kids under 5 to a fancy pants restaurant. When analyzing debt levels, the balance sheet is the obvious place to start. But ultimately, the company’s future profitability will decide whether Health and Happiness (H&H) International Holdings can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free Analyst Profit Forecast report interesting.

But our last consideration is also important, because a business cannot pay its debts with paper profits; he needs hard cash. The logical step is therefore to examine the proportion of this EBIT that corresponds to the actual free cash flow. Over the past three years, Health and Happiness (H&H) International Holdings has recorded free cash flow of 72% of its EBIT, which is close to normal given that free cash flow excludes interest and Taxes. This hard cash allows him to reduce his debt whenever he wants.

Our point of view

To be frank, Health and Happiness (H&H) International Holdings’ level of total liabilities and its track record of (not) growing its EBIT makes us rather uncomfortable with its debt levels. But on the bright side, its conversion from EBIT to free cash flow is a good sign and makes us more optimistic. Looking at the balance sheet and taking all of these factors into account, we think debt makes Health and Happiness (H&H) International Holdings stock a bit risky. Some people like this kind of risk, but we are aware of the potential pitfalls, so we would probably prefer him to carry less debt. When analyzing debt levels, the balance sheet is the obvious place to start. But at the end of the day, every business can contain risks that exist off the balance sheet. Note that Health and Happiness (H&H) International Holdings shows 3 warning signs in our investment analysis , and 1 of them is a bit disturbing …

At the end of the day, it’s often best to focus on businesses that don’t have net debt. You can access our special list of these companies (all with a history of profit growth). It’s free.

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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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