Does Mexan (HKG:22) Have A Healthy Balance Sheet?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that Mexan Limited (HKG:22) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Mexan

What Is Mexan's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Mexan had HK$46.6m of debt, an increase on HK$26.2m, over one year. However, it does have HK$16.7m in cash offsetting this, leading to net debt of about HK$29.9m.

A Look At Mexan's Liabilities

According to the last reported balance sheet, Mexan had liabilities of HK$60.1m due within 12 months, and liabilities of HK$15.1m due beyond 12 months. Offsetting these obligations, it had cash of HK$16.7m as well as receivables valued at HK$367.0k due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$58.1m.

This deficit isn't so bad because Mexan is worth HK$261.5m, and thus could probably raise enough capital to shore up 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. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Mexan 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 Mexan had a loss before interest and tax, and actually shrunk its revenue by 72%, to HK$20m. That makes us nervous, to say the least.

Caveat Emptor

While Mexan's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Its EBIT loss was a whopping HK$46m. 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. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled HK$25m in negative free cash flow over the last twelve months. So in short it's a really risky stock. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Consider for instance, the ever-present spectre of investment risk. We've identified 3 warning signs with Mexan (at least 1 which can't be ignored) , and understanding them should be part of your investment process.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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This article by Simply Wall St is general in nature. 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.
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