Here's Why Pan Asia Environmental Protection Group (HKG:556) Can Manage Its Debt Despite Losing Money

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Pan Asia Environmental Protection Group Limited (HKG:556) does use debt in its business. But is this debt a concern to shareholders?

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. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

Our analysis indicates that 556 is potentially overvalued!

How Much Debt Does Pan Asia Environmental Protection Group Carry?

The image below, which you can click on for greater detail, shows that at June 2022 Pan Asia Environmental Protection Group had debt of CN¥89.4m, up from CN¥46.4m in one year. However, its balance sheet shows it holds CN¥1.20b in cash, so it actually has CN¥1.11b net cash.

A Look At Pan Asia Environmental Protection Group's Liabilities

The latest balance sheet data shows that Pan Asia Environmental Protection Group had liabilities of CN¥103.1m due within a year, and liabilities of CN¥20.3m falling due after that. Offsetting this, it had CN¥1.20b in cash and CN¥46.5m in receivables that were due within 12 months. So it can boast CN¥1.12b more liquid assets than total liabilities.

This surplus liquidity suggests that Pan Asia Environmental Protection Group's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Succinctly put, Pan Asia Environmental Protection Group boasts net cash, so it's fair to say it does not have a heavy debt load! There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Pan Asia Environmental Protection 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 Pan Asia Environmental Protection Group wasn't profitable at an EBIT level, but managed to grow its revenue by 120%, to CN¥78m. So there's no doubt that shareholders are cheering for growth

So How Risky Is Pan Asia Environmental Protection Group?

We have no doubt that loss making companies are, in general, riskier than profitable ones. And the fact is that over the last twelve months Pan Asia Environmental Protection Group lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through CN¥31m of cash and made a loss of CN¥9.4m. With only CN¥1.11b on the balance sheet, it would appear that its going to need to raise capital again soon. The good news for shareholders is that Pan Asia Environmental Protection Group has dazzling revenue growth, so there's a very good chance it can boost its free cash flow in the years to come. While unprofitable companies can be risky, they can also grow hard and fast in those pre-profit years. 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. For example Pan Asia Environmental Protection Group has 2 warning signs (and 1 which shouldn't be ignored) we think 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.