Is Gemilang International (HKG:6163) Using Too Much Debt?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Gemilang International Limited (HKG:6163) does carry debt. But the more important question is: how much risk is that debt creating?

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. 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.

See our latest analysis for Gemilang International

How Much Debt Does Gemilang International Carry?

The image below, which you can click on for greater detail, shows that Gemilang International had debt of US$11.4m at the end of October 2023, a reduction from US$15.1m over a year. On the flip side, it has US$321.0k in cash leading to net debt of about US$11.0m.

How Healthy Is Gemilang International's Balance Sheet?

We can see from the most recent balance sheet that Gemilang International had liabilities of US$20.3m falling due within a year, and liabilities of US$80.0k due beyond that. Offsetting this, it had US$321.0k in cash and US$5.43m in receivables that were due within 12 months. So its liabilities total US$14.6m more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the US$6.25m 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'd watch its balance sheet closely, without a doubt. At the end of the day, Gemilang International would probably need a major re-capitalization if its creditors were to demand repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Gemilang International's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Gemilang International had a loss before interest and tax, and actually shrunk its revenue by 48%, to US$14m. That makes us nervous, to say the least.

Caveat Emptor

Not only did Gemilang International's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost a very considerable US$3.6m at the EBIT level. Considering that alongside the liabilities mentioned above make us nervous 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 US$2.8m didn't encourage us either; we'd like to see a profit. And until that time we think this is a risky stock. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Gemilang International is showing 3 warning signs in our investment analysis , you should know about...

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.