Is Yunnan Tourism (SZSE:002059) A Risky Investment?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. As with many other companies Yunnan Tourism Co., Ltd. (SZSE:002059) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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.

View our latest analysis for Yunnan Tourism

What Is Yunnan Tourism's Net Debt?

As you can see below, Yunnan Tourism had CN¥530.9m of debt at September 2024, down from CN¥973.6m a year prior. However, it does have CN¥289.0m in cash offsetting this, leading to net debt of about CN¥241.9m.

How Strong Is Yunnan Tourism's Balance Sheet?

We can see from the most recent balance sheet that Yunnan Tourism had liabilities of CN¥1.30b falling due within a year, and liabilities of CN¥547.4m due beyond that. Offsetting this, it had CN¥289.0m in cash and CN¥352.9m in receivables that were due within 12 months. So it has liabilities totalling CN¥1.21b more than its cash and near-term receivables, combined.

This deficit isn't so bad because Yunnan Tourism is worth CN¥5.79b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Yunnan Tourism'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.

Over 12 months, Yunnan Tourism reported revenue of CN¥797m, which is a gain of 83%, 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

Despite the top line growth, Yunnan Tourism still had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost CN¥392m 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. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through CN¥112m of cash over the last year. So suffice it to say we do consider the stock to be risky. 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. We've identified 1 warning sign with Yunnan Tourism , and understanding them should be part of your investment process.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.