The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Sensteed Hi-Tech Group (SZSE:000981) does carry debt. But the real question is whether this debt is making the company risky.
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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Sensteed Hi-Tech Group's Debt?
As you can see below, Sensteed Hi-Tech Group had CN¥5.78b of debt, at March 2024, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has CN¥1.05b in cash leading to net debt of about CN¥4.73b.
How Strong Is Sensteed Hi-Tech Group's Balance Sheet?
According to the last reported balance sheet, Sensteed Hi-Tech Group had liabilities of CN¥8.80b due within 12 months, and liabilities of CN¥2.65b due beyond 12 months. Offsetting these obligations, it had cash of CN¥1.05b as well as receivables valued at CN¥1.59b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥8.80b.
This deficit is considerable relative to its market capitalization of CN¥12.0b, so it does suggest shareholders should keep an eye on Sensteed Hi-Tech Group's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. When analysing debt levels, the balance sheet is the obvious place to start. But it is Sensteed Hi-Tech Group's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.
Over 12 months, Sensteed Hi-Tech Group reported revenue of CN¥5.4b, which is a gain of 50%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.
Caveat Emptor
While we can certainly appreciate Sensteed Hi-Tech Group's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Indeed, it lost CN¥671m 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. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. We would feel better if it turned its trailing twelve month loss of CN¥1.4b into a profit. So we do think this stock is quite risky. When we look at a riskier company, we like to check how their profits (or losses) are trending over time. Today, we're providing readers this interactive graph showing how Sensteed Hi-Tech Group's profit, revenue, and operating cashflow have changed over the last few years.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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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.