The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. Importantly, Yue Yuen Industrial (Holdings) Limited (HKG:551) does carry debt. But the real question is whether this debt is making the company risky.
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. 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 step when considering a company's debt levels is to consider its cash and debt together.
What Is Yue Yuen Industrial (Holdings)'s Net Debt?
The chart below, which you can click on for greater detail, shows that Yue Yuen Industrial (Holdings) had US$1.91b in debt in June 2022; about the same as the year before. However, it does have US$929.1m in cash offsetting this, leading to net debt of about US$985.7m.
A Look At Yue Yuen Industrial (Holdings)'s Liabilities
The latest balance sheet data shows that Yue Yuen Industrial (Holdings) had liabilities of US$2.37b due within a year, and liabilities of US$1.50b falling due after that. Offsetting these obligations, it had cash of US$929.1m as well as receivables valued at US$1.81b due within 12 months. So its liabilities total US$1.13b more than the combination of its cash and short-term receivables.
Yue Yuen Industrial (Holdings) has a market capitalization of US$2.06b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Yue Yuen Industrial (Holdings)'s ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
In the last year Yue Yuen Industrial (Holdings) had a loss before interest and tax, and actually shrunk its revenue by 8.0%, to US$8.4b. That's not what we would hope to see.
Over the last twelve months Yue Yuen Industrial (Holdings) produced an earnings before interest and tax (EBIT) loss. Indeed, it lost US$23m 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. However, it doesn't help that it burned through US$38m of cash over the last year. So suffice it to say we do consider the stock to be risky. 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 instance, we've identified 3 warning signs for Yue Yuen Industrial (Holdings) (1 makes us a bit uncomfortable) you should be aware of.
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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Yue Yuen Industrial (Holdings)
Yue Yuen Industrial (Holdings) Limited, an investment holding company, engages in manufacturing and sale of athletic, athleisure, casual, and outdoor footwear in the People’s Republic of China, rest of Asia, the United States, Europe, and internationally.
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