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 PINE Technology Holdings Limited (HKG:1079) makes use of debt. But is this debt a concern to shareholders?
Why Does Debt Bring Risk?
Generally speaking, debt only becomes a real problem when a company can’t easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is PINE Technology Holdings’s Debt?
The image below, which you can click on for greater detail, shows that PINE Technology Holdings had debt of US$12.0m at the end of December 2019, a reduction from US$19.5m over a year. On the flip side, it has US$7.00m in cash leading to net debt of about US$5.02m.
A Look At PINE Technology Holdings’s Liabilities
We can see from the most recent balance sheet that PINE Technology Holdings had liabilities of US$48.0m falling due within a year, and liabilities of US$2.07m due beyond that. Offsetting this, it had US$7.00m in cash and US$41.0m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$2.04m.
Of course, PINE Technology Holdings has a market capitalization of US$17.1m, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. 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 PINE Technology Holdings 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 PINE Technology Holdings had negative earnings before interest and tax, and actually shrunk its revenue by 4.7%, to US$182m. That’s not what we would hope to see.
Importantly, PINE Technology Holdings had negative earnings before interest and tax (EBIT), over the last year. Its EBIT loss was a whopping US$36m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any 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 US$37m. In the meantime, we consider the stock very 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. Consider for instance, the ever-present spectre of investment risk. We’ve identified 5 warning signs with PINE Technology Holdings (at least 1 which is potentially serious) , and understanding them should be part of your investment process.
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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