Is AV Promotions Holdings (HKG:8419) Using Debt In A Risky Way?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. As with many other companies AV Promotions Holdings Limited (HKG:8419) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for AV Promotions Holdings

How Much Debt Does AV Promotions Holdings Carry?

As you can see below, AV Promotions Holdings had HK$93.7m of debt, at December 2023, which is about the same as the year before. You can click the chart for greater detail. However, because it has a cash reserve of HK$7.34m, its net debt is less, at about HK$86.4m.

How Healthy Is AV Promotions Holdings' Balance Sheet?

We can see from the most recent balance sheet that AV Promotions Holdings had liabilities of HK$149.6m falling due within a year, and liabilities of HK$32.9m due beyond that. Offsetting these obligations, it had cash of HK$7.34m as well as receivables valued at HK$65.4m due within 12 months. So it has liabilities totalling HK$109.8m more than its cash and near-term receivables, combined.

This deficit casts a shadow over the HK$38.8m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, AV Promotions Holdings would probably need a major re-capitalization if its creditors were to demand repayment. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since AV Promotions Holdings 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, AV Promotions Holdings reported revenue of HK$139m, which is a gain of 48%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.

Caveat Emptor

Even though AV Promotions Holdings managed to grow its top line quite deftly, the cold hard truth is that it is losing money on the EBIT line. Indeed, it lost a very considerable HK$9.0m 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. But we think that is unlikely since it is low on liquid assets, and made a loss of HK$12m in the last year. So while it's not wise to assume the company will fail, we do think it's risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with AV Promotions Holdings , and understanding them should be part of your investment process.

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.