Is Ocean Star Technology Group (HKG:8297) Using Debt In A Risky Way?

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.' 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 can see that Ocean Star Technology Group Limited (HKG:8297) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Ocean Star Technology Group

What Is Ocean Star Technology Group's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2022 Ocean Star Technology Group had debt of HK$21.5m, up from none in one year. But on the other hand it also has HK$23.0m in cash, leading to a HK$1.50m net cash position.

How Healthy Is Ocean Star Technology Group's Balance Sheet?

We can see from the most recent balance sheet that Ocean Star Technology Group had liabilities of HK$79.5m falling due within a year, and liabilities of HK$9.75m due beyond that. On the other hand, it had cash of HK$23.0m and HK$29.0m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$37.3m.

Ocean Star Technology Group has a market capitalization of HK$135.0m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Ocean Star Technology Group also has more cash than debt, so we're pretty confident it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Ocean Star Technology Group 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.

In the last year Ocean Star Technology Group had a loss before interest and tax, and actually shrunk its revenue by 15%, to HK$42m. That's not what we would hope to see.

So How Risky Is Ocean Star Technology Group?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And in the last year Ocean Star Technology Group had an earnings before interest and tax (EBIT) loss, truth be told. Indeed, in that time it burnt through HK$26m of cash and made a loss of HK$36m. With only HK$1.50m on the balance sheet, it would appear that its going to need to raise capital again soon. Summing up, we're a little skeptical of this one, as it seems fairly risky in the absence of free cashflow. 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. To that end, you should learn about the 5 warning signs we've spotted with Ocean Star Technology Group (including 3 which are significant) .

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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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.