Is KuangChi Science (HKG:439) Using Debt In A Risky Way?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 KuangChi Science Limited (HKG:439) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for KuangChi Science

What Is KuangChi Science's Debt?

As you can see below, KuangChi Science had HK$102.0m of debt at June 2024, down from HK$135.2m a year prior. However, it does have HK$139.8m in cash offsetting this, leading to net cash of HK$37.8m.

A Look At KuangChi Science's Liabilities

We can see from the most recent balance sheet that KuangChi Science had liabilities of HK$96.6m falling due within a year, and liabilities of HK$175.0m due beyond that. On the other hand, it had cash of HK$139.8m and HK$102.4m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$29.4m.

Since publicly traded KuangChi Science shares are worth a total of HK$320.2m, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, KuangChi Science boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But it is KuangChi Science'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.

Over 12 months, KuangChi Science reported revenue of HK$82m, which is a gain of 48%, 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 KuangChi Science?

We have no doubt that loss making companies are, in general, riskier than profitable ones. And in the last year KuangChi Science had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of HK$53m and booked a HK$3.4m accounting loss. But the saving grace is the HK$37.8m on the balance sheet. That kitty means the company can keep spending for growth for at least two years, at current rates. KuangChi Science's revenue growth shone bright over the last year, so it may well be in a position to turn a profit in due course. Pre-profit companies are often risky, but they can also offer great rewards. 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. We've identified 2 warning signs with KuangChi Science , and understanding them should be part of your investment process.

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.