CHTC Fong's International (HKG:641) Has Debt But No Earnings; Should You Worry?

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.' 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. We can see that CHTC Fong's International Company Limited (HKG:641) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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.

What Is CHTC Fong's International's Net Debt?

The image below, which you can click on for greater detail, shows that CHTC Fong's International had debt of HK$1.19b at the end of December 2024, a reduction from HK$1.37b over a year. On the flip side, it has HK$250.5m in cash leading to net debt of about HK$934.8m.

How Healthy Is CHTC Fong's International's Balance Sheet?

We can see from the most recent balance sheet that CHTC Fong's International had liabilities of HK$1.97b falling due within a year, and liabilities of HK$388.5m due beyond that. Offsetting these obligations, it had cash of HK$250.5m as well as receivables valued at HK$303.2m due within 12 months. So it has liabilities totalling HK$1.81b more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the HK$368.6m 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, CHTC Fong's International would probably need a major re-capitalization if its creditors were to demand repayment. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since CHTC Fong's International 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.

Check out our latest analysis for CHTC Fong's International

Over 12 months, CHTC Fong's International reported revenue of HK$2.0b, which is a gain of 13%, although it did not report any earnings before interest and tax. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

Caveat Emptor

Over the last twelve months CHTC Fong's International produced an earnings before interest and tax (EBIT) loss. Indeed, it lost a very considerable HK$60m at the EBIT level. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. That said, it is possible that the company will turn its fortunes around. Nevertheless, we would not bet on it given that it lost HK$118m in just last twelve months, and it doesn't have much by way of liquid assets. So while it's not wise to assume the company will fail, we do think it's risky. 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. For example CHTC Fong's International has 4 warning signs (and 2 which are concerning) we think you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.