Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital. When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Hao Tian International Construction Investment Group Limited (HKG:1341) makes use of debt. But is this debt a concern to shareholders?
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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.
What Is Hao Tian International Construction Investment Group's Net Debt?
You can click the graphic below for the historical numbers, but it shows that Hao Tian International Construction Investment Group had HK$83.4m of debt in September 2019, down from HK$122.8m, one year before. However, it does have HK$258.2m in cash offsetting this, leading to net cash of HK$174.7m.
A Look At Hao Tian International Construction Investment Group's Liabilities
According to the last reported balance sheet, Hao Tian International Construction Investment Group had liabilities of HK$211.9m due within 12 months, and liabilities of HK$89.5m due beyond 12 months. Offsetting these obligations, it had cash of HK$258.2m as well as receivables valued at HK$270.8m due within 12 months. So it can boast HK$227.6m more liquid assets than total liabilities.
This excess liquidity suggests that Hao Tian International Construction Investment Group is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that Hao Tian International Construction Investment Group has more cash than debt is arguably a good indication that it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But it is Hao Tian International Construction Investment 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, Hao Tian International Construction Investment Group made a loss at the EBIT level, and saw its revenue drop to HK$171m, which is a fall of 2.2%. We would much prefer see growth.
So How Risky Is Hao Tian International Construction Investment Group?
Statistically speaking companies that lose money are riskier than those that make money. And in the last year Hao Tian International Construction Investment Group had negative earnings before interest and tax (EBIT), truth be told. And over the same period it saw negative free cash outflow of HK$232m and booked a HK$8.8m accounting loss. But at least it has HK$174.7m on the balance sheet to spend on growth, near-term. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 5 warning signs for Hao Tian International Construction Investment Group (3 are concerning) 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.
If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.
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