Is Tse Sui Luen Jewellery (International) (HKG:417) Using Too Much Debt?

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. We note that Tse Sui Luen Jewellery (International) Limited (HKG:417) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Tse Sui Luen Jewellery (International)

What Is Tse Sui Luen Jewellery (International)'s Net Debt?

As you can see below, at the end of September 2020, Tse Sui Luen Jewellery (International) had HK$1.08b of debt, up from HK$906.0m a year ago. Click the image for more detail. However, because it has a cash reserve of HK$440.6m, its net debt is less, at about HK$635.9m.

A Look At Tse Sui Luen Jewellery (International)'s Liabilities

According to the last reported balance sheet, Tse Sui Luen Jewellery (International) had liabilities of HK$1.15b due within 12 months, and liabilities of HK$577.6m due beyond 12 months. Offsetting these obligations, it had cash of HK$440.6m as well as receivables valued at HK$122.9m due within 12 months. So it has liabilities totalling HK$1.17b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the HK$226.8m company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Tse Sui Luen Jewellery (International) would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Tse Sui Luen Jewellery (International) 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, Tse Sui Luen Jewellery (International) made a loss at the EBIT level, and saw its revenue drop to HK$2.4b, which is a fall of 36%. To be frank that doesn't bode well.

Caveat Emptor

While Tse Sui Luen Jewellery (International)'s falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable HK$36m at the EBIT level. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. Of course, it may be able to improve its situation with a bit of luck and good execution. But we think that is unlikely since it is low on liquid assets, and made a loss of HK$133m 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. Take risks, for example - Tse Sui Luen Jewellery (International) has 3 warning signs (and 1 which is a bit concerning) we think you should know about.

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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