Would Hainan Haiyao (SZSE:000566) Be Better Off With Less 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.' 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 Hainan Haiyao Co., Ltd. (SZSE:000566) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Hainan Haiyao

What Is Hainan Haiyao's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Hainan Haiyao had CN¥4.26b of debt, an increase on CN¥4.04b, over one year. However, it also had CN¥832.1m in cash, and so its net debt is CN¥3.43b.

How Healthy Is Hainan Haiyao's Balance Sheet?

The latest balance sheet data shows that Hainan Haiyao had liabilities of CN¥3.61b due within a year, and liabilities of CN¥1.79b falling due after that. Offsetting these obligations, it had cash of CN¥832.1m as well as receivables valued at CN¥882.5m due within 12 months. So its liabilities total CN¥3.69b more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Hainan Haiyao has a market capitalization of CN¥6.21b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Hainan Haiyao'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, Hainan Haiyao made a loss at the EBIT level, and saw its revenue drop to CN¥1.0b, which is a fall of 34%. To be frank that doesn't bode well.

Caveat Emptor

While Hainan Haiyao's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at CN¥214m. 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. However, it doesn't help that it burned through CN¥149m of cash over the last year. So to be blunt we think it is risky. For riskier companies like Hainan Haiyao I always like to keep an eye on the long term profit and revenue trends. Fortunately, you can click to see our interactive graph of its profit, revenue, and operating cashflow.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.