David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Shanghai Dragon Corporation (SHSE:600630) does use debt in its business. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
View our latest analysis for Shanghai Dragon
What Is Shanghai Dragon's Debt?
As you can see below, Shanghai Dragon had CN¥472.3m of debt at September 2023, down from CN¥575.2m a year prior. However, it does have CN¥383.5m in cash offsetting this, leading to net debt of about CN¥88.8m.
How Healthy Is Shanghai Dragon's Balance Sheet?
We can see from the most recent balance sheet that Shanghai Dragon had liabilities of CN¥763.2m falling due within a year, and liabilities of CN¥187.9m due beyond that. Offsetting these obligations, it had cash of CN¥383.5m as well as receivables valued at CN¥188.4m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥379.2m.
Since publicly traded Shanghai Dragon shares are worth a total of CN¥5.86b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Shanghai Dragon will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
In the last year Shanghai Dragon had a loss before interest and tax, and actually shrunk its revenue by 48%, to CN¥1.4b. That makes us nervous, to say the least.
Caveat Emptor
Not only did Shanghai Dragon's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost CN¥419m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. For example, we would not want to see a repeat of last year's loss of CN¥462m. So we do think this stock is quite risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example - Shanghai Dragon has 2 warning signs we think you should be aware of.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an 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 account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.