Narnia (Hong Kong) Group (HKG:8607) Is Carrying A Fair Bit Of Debt

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.' 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. As with many other companies Narnia (Hong Kong) Group Company Limited (HKG:8607) makes use of debt. But is this debt a concern to shareholders?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Narnia (Hong Kong) Group

How Much Debt Does Narnia (Hong Kong) Group Carry?

As you can see below, Narnia (Hong Kong) Group had CN¥82.9m of debt at December 2022, down from CN¥94.6m a year prior. On the flip side, it has CN¥9.75m in cash leading to net debt of about CN¥73.2m.

How Strong Is Narnia (Hong Kong) Group's Balance Sheet?

The latest balance sheet data shows that Narnia (Hong Kong) Group had liabilities of CN¥125.9m due within a year, and liabilities of CN¥653.0k falling due after that. On the other hand, it had cash of CN¥9.75m and CN¥44.0m worth of receivables due within a year. So it has liabilities totalling CN¥72.9m more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Narnia (Hong Kong) Group has a market capitalization of CN¥345.4m, 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. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Narnia (Hong Kong) 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.

Over 12 months, Narnia (Hong Kong) Group reported revenue of CN¥349m, which is a gain of 5.8%, although it did not report any earnings before interest and tax. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

Caveat Emptor

Over the last twelve months Narnia (Hong Kong) Group produced an earnings before interest and tax (EBIT) loss. Indeed, it lost CN¥3.4m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. We would feel better if it turned its trailing twelve month loss of CN¥3.2m into a profit. So to be blunt we do 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. Be aware that Narnia (Hong Kong) Group is showing 3 warning signs in our investment analysis , and 1 of those makes us a bit uncomfortable...

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.