Is Kai Yuan Holdings (HKG:1215) A Risky Investment?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Kai Yuan Holdings Limited (HKG:1215) 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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Kai Yuan Holdings

What Is Kai Yuan Holdings's Debt?

You can click the graphic below for the historical numbers, but it shows that Kai Yuan Holdings had HK$1.41b of debt in June 2022, down from HK$1.59b, one year before. However, it does have HK$826.0m in cash offsetting this, leading to net debt of about HK$583.9m.

A Look At Kai Yuan Holdings' Liabilities

The latest balance sheet data shows that Kai Yuan Holdings had liabilities of HK$61.2m due within a year, and liabilities of HK$1.55b falling due after that. Offsetting these obligations, it had cash of HK$826.0m as well as receivables valued at HK$144.8m due within 12 months. So it has liabilities totalling HK$641.8m more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the HK$293.9m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, Kai Yuan Holdings would probably need a major re-capitalization if its creditors were to demand repayment. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Kai Yuan 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.

In the last year Kai Yuan Holdings wasn't profitable at an EBIT level, but managed to grow its revenue by 2,418%, to HK$136m. When it comes to revenue growth, that's like nailing the game winning 3-pointer!

Caveat Emptor

While we can certainly appreciate Kai Yuan Holdings's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Indeed, it lost a very considerable HK$40m at the EBIT level. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. It's fair to say the loss of HK$130m didn't encourage us either; we'd like to see a profit. In the meantime, we consider the stock to be 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. For instance, we've identified 2 warning signs for Kai Yuan Holdings (1 is concerning) 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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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.