A market capitalization of HK$201.86B puts CLP Holdings Limited (SEHK:2) in the basket of stocks categorized as large-caps. These stocks draw significant attention from the investing community due to its size and liquidity. However, a more fundamental aspect of investing in large caps is its financial health. Why is it important? A major downturn in the energy industry has resulted in over 150 companies going bankrupt and has put more than 100 on the verge of a collapse, primarily due to excessive debt. Here are few basic financial health checks to judge whether a company fits the bill or there is an additional risk which you should consider before taking the plunge. See our latest analysis for CLP Holdings
Is 2’s level of debt at an acceptable level?
What is considered a high debt-to-equity ratio differs depending on the industry, because some industries tend to utilize more debt financing than others. As a rule of thumb, a financially healthy large-cap should have a ratio less than 40%. In the case of 2, the debt-to-equity ratio is 47.14%, which means, while the company’s debt could pose a problem for its earnings stability, it is not at an alarmingly high level yet. No matter how high the company’s debt, if it can easily cover the interest payments, it’s considered to be efficient with its use of excess leverage. A company generating earnings (EBIT) at least three times its interest payments is considered financially sound. 2’s profits amply covers interest at 7.3 times, which is seen as relatively safe. Debtors may be willing to loan the company more money, giving 2 ample headroom to grow its debt facilities.
How does 2’s operating cash flow stack up against its debt?
A simple way to determine whether the company has put debt into good use is to look at its operating cash flow against its debt obligation. This also assesses 2’s debt repayment capacity, which is not a big concern for a large company. Last year, 2’s operating cash flow was 0.39x its current debt. A ratio of over a 0.25x is a positive sign and shows that 2 is generating ample cash from its core business, which should increase its potential to pay back near-term debt.
Next Steps:
Are you a shareholder? Although 2’s debt level is towards the higher end of the spectrum, investors shouldn’t panic since its cash flow coverage seems adequate to meet obligations which means its debt is being efficiently utilised. Given that 2’s financial position could change, I suggest researching market expectations for 2’s future growth on our free analysis platform.