Is China Environmental Resources Group (HKG:1130) Using Debt Sensibly?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. Importantly, China Environmental Resources Group Limited (HKG:1130) does carry 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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest 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.

Check out our latest analysis for China Environmental Resources Group

What Is China Environmental Resources Group's Net Debt?

As you can see below, China Environmental Resources Group had HK$68.2m of debt at June 2022, down from HK$71.8m a year prior. On the flip side, it has HK$7.26m in cash leading to net debt of about HK$61.0m.

A Look At China Environmental Resources Group's Liabilities

We can see from the most recent balance sheet that China Environmental Resources Group had liabilities of HK$108.9m falling due within a year, and liabilities of HK$133.6m due beyond that. Offsetting this, it had HK$7.26m in cash and HK$37.3m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$198.0m.

The deficiency here weighs heavily on the HK$101.8m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, China Environmental Resources Group would probably need a major re-capitalization if its creditors were to demand repayment. When analysing debt levels, the balance sheet is the obvious place to start. But it is China Environmental Resources Group'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 China Environmental Resources Group wasn't profitable at an EBIT level, but managed to grow its revenue by 20%, to HK$93m. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Importantly, China Environmental Resources Group had an earnings before interest and tax (EBIT) loss over the last year. Its EBIT loss was a whopping HK$18m. Considering that alongside the liabilities mentioned above make us nervous about the company. It would need to improve its operations quickly for us to be interested in it. It's fair to say the loss of HK$21m didn't encourage us either; we'd like to see a profit. And until that time we think this is a risky stock. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for China Environmental Resources Group you should know about.

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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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.