Health Check: How Prudently Does Guangzhou Automobile Group (HKG:2238) Use 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 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. We can see that Guangzhou Automobile Group Co., Ltd. (HKG:2238) does use debt in its business. But is this debt a concern to shareholders?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.

View our latest analysis for Guangzhou Automobile Group

What Is Guangzhou Automobile Group's Net Debt?

As you can see below, at the end of September 2023, Guangzhou Automobile Group had CN¥25.3b of debt, up from CN¥21.3b a year ago. Click the image for more detail. But it also has CN¥50.5b in cash to offset that, meaning it has CN¥25.2b net cash.

How Strong Is Guangzhou Automobile Group's Balance Sheet?

We can see from the most recent balance sheet that Guangzhou Automobile Group had liabilities of CN¥68.8b falling due within a year, and liabilities of CN¥17.0b due beyond that. Offsetting these obligations, it had cash of CN¥50.5b as well as receivables valued at CN¥10.0b due within 12 months. So its liabilities total CN¥25.2b more than the combination of its cash and short-term receivables.

Guangzhou Automobile Group has a very large market capitalization of CN¥73.7b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. While it does have liabilities worth noting, Guangzhou Automobile Group also has more cash than debt, so we're pretty confident it can manage its debt safely. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Guangzhou Automobile Group's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Over 12 months, Guangzhou Automobile Group reported revenue of CN¥128b, which is a gain of 27%, 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.

So How Risky Is Guangzhou Automobile Group?

Although Guangzhou Automobile Group had an earnings before interest and tax (EBIT) loss over the last twelve months, it made a statutory profit of CN¥4.5b. So taking that on face value, and considering the cash, we don't think its very risky in the near term. The good news for Guangzhou Automobile Group shareholders is that its revenue growth is strong, making it easier to raise capital if need be. But that doesn't change our opinion that the stock 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. Case in point: We've spotted 3 warning signs for Guangzhou Automobile Group you should be aware of.

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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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.