Grown Up Group Investment Holdings (HKG:1842) Is Carrying A Fair Bit Of Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Grown Up Group Investment Holdings Limited (HKG:1842) does use debt in its business. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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, 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Grown Up Group Investment Holdings

How Much Debt Does Grown Up Group Investment Holdings Carry?

You can click the graphic below for the historical numbers, but it shows that Grown Up Group Investment Holdings had HK$79.0m of debt in December 2020, down from HK$84.9m, one year before. However, it does have HK$28.4m in cash offsetting this, leading to net debt of about HK$50.5m.

How Healthy Is Grown Up Group Investment Holdings' Balance Sheet?

We can see from the most recent balance sheet that Grown Up Group Investment Holdings had liabilities of HK$176.0m falling due within a year, and liabilities of HK$11.1m due beyond that. Offsetting this, it had HK$28.4m in cash and HK$56.8m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$101.9m.

While this might seem like a lot, it is not so bad since Grown Up Group Investment Holdings has a market capitalization of HK$275.0m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Grown Up Group Investment 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, Grown Up Group Investment Holdings reported revenue of HK$347m, which is a gain of 14%, although it did not report any earnings before interest and tax. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Importantly, Grown Up Group Investment Holdings had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost HK$16m at the EBIT level. 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. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. For example, we would not want to see a repeat of last year's loss of HK$14m. So to be blunt we do think it is 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 4 warning signs with Grown Up Group Investment Holdings (at least 2 which are potentially serious) , and understanding them should be part of your investment process.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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