Is Starlight Culture Entertainment Group (HKG:1159) A Risky Investment?

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. As with many other companies Starlight Culture Entertainment Group Limited (HKG:1159) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Starlight Culture Entertainment Group

What Is Starlight Culture Entertainment Group's Debt?

The image below, which you can click on for greater detail, shows that Starlight Culture Entertainment Group had debt of HK$402.3m at the end of December 2021, a reduction from HK$512.1m over a year. However, it does have HK$309.2m in cash offsetting this, leading to net debt of about HK$93.1m.

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

According to the last reported balance sheet, Starlight Culture Entertainment Group had liabilities of HK$816.2m due within 12 months, and liabilities of HK$18.0m due beyond 12 months. Offsetting these obligations, it had cash of HK$309.2m as well as receivables valued at HK$68.8m due within 12 months. So its liabilities total HK$456.3m more than the combination of its cash and short-term receivables.

Given this deficit is actually higher than the company's market capitalization of HK$341.8m, we think shareholders really should watch Starlight Culture Entertainment Group'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. 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 when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Starlight Culture Entertainment Group wasn't profitable at an EBIT level, but managed to grow its revenue by 204%, to HK$145m. When it comes to revenue growth, that's like nailing the game winning 3-pointer!

Caveat Emptor

Even though Starlight Culture Entertainment Group managed to grow its top line quite deftly, the cold hard truth is that it is losing money on the EBIT line. Its EBIT loss was a whopping HK$57m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. It's fair to say the loss of HK$117m 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. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Starlight Culture Entertainment Group you should know about.

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.