Is AV Promotions Holdings (HKG:8419) Using Too Much Debt?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 AV Promotions Holdings Limited (HKG:8419) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for AV Promotions Holdings

What Is AV Promotions Holdings's Debt?

As you can see below, at the end of December 2021, AV Promotions Holdings had HK$100.0m of debt, up from HK$90.2m a year ago. Click the image for more detail. However, it also had HK$19.4m in cash, and so its net debt is HK$80.5m.

How Healthy Is AV Promotions Holdings' Balance Sheet?

The latest balance sheet data shows that AV Promotions Holdings had liabilities of HK$141.0m due within a year, and liabilities of HK$33.4m falling due after that. Offsetting these obligations, it had cash of HK$19.4m as well as receivables valued at HK$97.5m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$57.4m.

This is a mountain of leverage relative to its market capitalization of HK$86.4m. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. 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 if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Over 12 months, AV Promotions Holdings reported revenue of HK$167m, which is a gain of 35%, 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

While we can certainly appreciate AV Promotions Holdings's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. To be specific the EBIT loss came in at HK$5.8m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. However, it doesn't help that it burned through HK$2.3m of cash over the last year. So to be blunt we think it is 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. Case in point: We've spotted 2 warning signs for AV Promotions Holdings you should be aware of.

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.