Is Global Strategic Group (HKG:8007) Using Debt In A Risky Way?

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 Global Strategic Group Limited (HKG:8007) does use debt in its business. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Global Strategic Group

What Is Global Strategic Group's Net Debt?

The image below, which you can click on for greater detail, shows that at March 2023 Global Strategic Group had debt of HK$108.7m, up from HK$73.0m in one year. However, it does have HK$4.19m in cash offsetting this, leading to net debt of about HK$104.5m.

How Healthy Is Global Strategic Group's Balance Sheet?

According to the last reported balance sheet, Global Strategic Group had liabilities of HK$109.9m due within 12 months, and liabilities of HK$83.8m due beyond 12 months. On the other hand, it had cash of HK$4.19m and HK$25.9m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$163.6m.

Given this deficit is actually higher than the company's market capitalization of HK$132.2m, we think shareholders really should watch Global Strategic 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. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Global Strategic 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 Global Strategic Group wasn't profitable at an EBIT level, but managed to grow its revenue by 18%, to HK$153m. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Over the last twelve months Global Strategic Group produced an earnings before interest and tax (EBIT) loss. Its EBIT loss was a whopping HK$25m. 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. Not least because it burned through HK$15m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that Global Strategic Group is showing 3 warning signs in our investment analysis , and 1 of those is concerning...

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.