Here's Why Starlight Culture Entertainment Group (HKG:1159) Can Afford Some Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. Importantly, Starlight Culture Entertainment Group Limited (HKG:1159) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. 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 Starlight Culture Entertainment Group

How Much Debt Does Starlight Culture Entertainment Group Carry?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 Starlight Culture Entertainment Group had HK$510.9m of debt, an increase on HK$370.7m, over one year. However, it also had HK$443.9m in cash, and so its net debt is HK$67.0m.

How Healthy Is Starlight Culture Entertainment Group's Balance Sheet?

The latest balance sheet data shows that Starlight Culture Entertainment Group had liabilities of HK$482.9m due within a year, and liabilities of HK$359.3m falling due after that. Offsetting this, it had HK$443.9m in cash and HK$161.9m in receivables that were due within 12 months. So it has liabilities totalling HK$236.4m more than its cash and near-term receivables, combined.

Of course, Starlight Culture Entertainment Group has a market capitalization of HK$1.20b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Starlight Culture Entertainment Group will need earnings to service that debt. 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, Starlight Culture Entertainment Group made a loss at the EBIT level, and saw its revenue drop to HK$48m, which is a fall of 85%. That makes us nervous, to say the least.

Caveat Emptor

While Starlight Culture Entertainment Group's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost HK$52m 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. For example, we would not want to see a repeat of last year's loss of HK$157m. So we do think this stock is quite risky. 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. To that end, you should be aware of the 1 warning sign we've spotted with Starlight Culture Entertainment Group .

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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