Is BeijingWest Industries International (HKG:2339) Using Debt In A Risky Way?

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. We can see that BeijingWest Industries International Limited (HKG:2339) does use debt in its business. But is this debt a concern to shareholders?

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. If things get really bad, the lenders can take control of the business. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for BeijingWest Industries International

What Is BeijingWest Industries International's Debt?

The image below, which you can click on for greater detail, shows that BeijingWest Industries International had debt of HK$60.6m at the end of June 2022, a reduction from HK$70.6m over a year. But it also has HK$192.6m in cash to offset that, meaning it has HK$132.0m net cash.

How Healthy Is BeijingWest Industries International's Balance Sheet?

We can see from the most recent balance sheet that BeijingWest Industries International had liabilities of HK$645.1m falling due within a year, and liabilities of HK$444.0m due beyond that. Offsetting this, it had HK$192.6m in cash and HK$585.3m in receivables that were due within 12 months. So it has liabilities totalling HK$311.3m more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of HK$209.6m, we think shareholders really should watch BeijingWest Industries International's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. BeijingWest Industries International boasts net cash, so it's fair to say it does not have a heavy debt load, even if it does have very significant liabilities, in total. There's no doubt that we learn most about debt from the balance sheet. But it is BeijingWest Industries International'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.

In the last year BeijingWest Industries International had a loss before interest and tax, and actually shrunk its revenue by 2.8%, to HK$2.6b. That's not what we would hope to see.

So How Risky Is BeijingWest Industries International?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And the fact is that over the last twelve months BeijingWest Industries International lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through HK$42m of cash and made a loss of HK$10m. With only HK$132.0m on the balance sheet, it would appear that its going to need to raise capital again soon. Summing up, we're a little skeptical of this one, as it seems fairly risky in the absence of free cashflow. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 2 warning signs we've spotted with BeijingWest Industries International (including 1 which doesn't sit too well with us) .

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.