Baguio Green Group (HKG:1397) Is Carrying A Fair Bit Of Debt

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 note that Baguio Green Group Limited (HKG:1397) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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 step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Baguio Green Group

How Much Debt Does Baguio Green Group Carry?

The image below, which you can click on for greater detail, shows that Baguio Green Group had debt of HK$130.3m at the end of June 2021, a reduction from HK$194.5m over a year. However, because it has a cash reserve of HK$57.0m, its net debt is less, at about HK$73.4m.

How Healthy Is Baguio Green Group's Balance Sheet?

According to the last reported balance sheet, Baguio Green Group had liabilities of HK$321.3m due within 12 months, and liabilities of HK$52.7m due beyond 12 months. On the other hand, it had cash of HK$57.0m and HK$278.3m worth of receivables due within a year. So it has liabilities totalling HK$38.8m more than its cash and near-term receivables, combined.

This deficit isn't so bad because Baguio Green Group is worth HK$180.5m, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. 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 Baguio Green 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.

Over 12 months, Baguio Green Group made a loss at the EBIT level, and saw its revenue drop to HK$1.1b, which is a fall of 11%. That's not what we would hope to see.

Caveat Emptor

While Baguio Green Group's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at HK$8.5m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Surprisingly, we note that it actually reported positive free cash flow of HK$85m and a profit of HK$52m. So one might argue that there's still a chance it can get things on the right track. 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. Be aware that Baguio Green Group is showing 4 warning signs in our investment analysis , 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.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.