We Think Henan Huanghe Whirlwind (SHSE:600172) Has A Fair Chunk Of Debt

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 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. As with many other companies Henan Huanghe Whirlwind Co., Ltd. (SHSE:600172) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Henan Huanghe Whirlwind

What Is Henan Huanghe Whirlwind's Net Debt?

The image below, which you can click on for greater detail, shows that Henan Huanghe Whirlwind had debt of CN¥3.52b at the end of September 2024, a reduction from CN¥4.55b over a year. However, because it has a cash reserve of CN¥326.8m, its net debt is less, at about CN¥3.19b.

How Healthy Is Henan Huanghe Whirlwind's Balance Sheet?

The latest balance sheet data shows that Henan Huanghe Whirlwind had liabilities of CN¥6.10b due within a year, and liabilities of CN¥176.7m falling due after that. Offsetting these obligations, it had cash of CN¥326.8m as well as receivables valued at CN¥1.39b due within 12 months. So it has liabilities totalling CN¥4.56b more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of CN¥6.36b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Henan Huanghe Whirlwind 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.

Over 12 months, Henan Huanghe Whirlwind made a loss at the EBIT level, and saw its revenue drop to CN¥1.3b, which is a fall of 31%. That makes us nervous, to say the least.

Caveat Emptor

Not only did Henan Huanghe Whirlwind's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost CN¥391m at the EBIT level. 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. We would feel better if it turned its trailing twelve month loss of CN¥858m into a profit. So to be blunt we do think it is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for Henan Huanghe Whirlwind that you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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