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.’ So it seems the smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess how risky a company is. We note that YGM Trading Limited (HKG:375) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
Why Does Debt Bring Risk?
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 thing to do when considering how much debt a business uses is to look at its cash and debt together.
How Much Debt Does YGM Trading Carry?
The image below, which you can click on for greater detail, shows that YGM Trading had debt of HK$6.78m at the end of March 2019, a reduction from HK$10.5m over a year. However, it does have HK$364.1m in cash offsetting this, leading to net cash of HK$357.3m.
How Healthy Is YGM Trading’s Balance Sheet?
The latest balance sheet data shows that YGM Trading had liabilities of HK$213.9m due within a year, and liabilities of HK$1.51m falling due after that. Offsetting these obligations, it had cash of HK$364.1m as well as receivables valued at HK$25.9m due within 12 months. So it can boast HK$174.6m more liquid assets than total liabilities.
This surplus suggests that YGM Trading is using debt in a way that is appears to be both safe and conservative. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that YGM Trading 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 YGM Trading’s earnings that will influence how the balance sheet holds up in the future. So when considering debt, it’s definitely worth looking at the earnings trend. Click here for an interactive snapshot.
In the last year YGM Trading actually shrunk its revenue by 37%, to HK$361m. That makes us nervous, to say the least.
So How Risky Is YGM Trading?
Although YGM Trading had negative earnings before interest and tax (EBIT) over the last twelve months, it made a statutory profit of HK$90m. So when you consider it has net cash, along with the statutory profit, the stock probably isn’t as risky as it might seem, at least in the short term. With mediocre revenue growth in the last year, we’re don’t find the investment opportunity particularly compelling. 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 YGM Trading’s profit, revenue, and operating cashflow have changed over the last few years.
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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