Is Emperor Entertainment Hotel (HKG:296) Weighed On By Its Debt Load?

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 note that Emperor Entertainment Hotel Limited (HKG:296) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. 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 Emperor Entertainment Hotel

How Much Debt Does Emperor Entertainment Hotel Carry?

You can click the graphic below for the historical numbers, but it shows that Emperor Entertainment Hotel had HK$39.0m of debt in September 2020, down from HK$41.0m, one year before. But it also has HK$3.38b in cash to offset that, meaning it has HK$3.34b net cash.

How Healthy Is Emperor Entertainment Hotel's Balance Sheet?

We can see from the most recent balance sheet that Emperor Entertainment Hotel had liabilities of HK$437.5m falling due within a year, and liabilities of HK$118.3m due beyond that. Offsetting these obligations, it had cash of HK$3.38b as well as receivables valued at HK$97.4m due within 12 months. So it can boast HK$2.92b more liquid assets than total liabilities.

This surplus strongly suggests that Emperor Entertainment Hotel has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Emperor Entertainment Hotel has more cash than debt is arguably a good indication that it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But it is Emperor Entertainment Hotel's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Emperor Entertainment Hotel had a loss before interest and tax, and actually shrunk its revenue by 60%, to HK$558m. To be frank that doesn't bode well.

So How Risky Is Emperor Entertainment Hotel?

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 Emperor Entertainment Hotel had an earnings before interest and tax (EBIT) loss, truth be told. Indeed, in that time it burnt through HK$173m of cash and made a loss of HK$55m. Given it only has net cash of HK$3.34b, the company may need to raise more capital if it doesn't reach break-even soon. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 2 warning signs we've spotted with Emperor Entertainment Hotel (including 1 which shouldn't be ignored) .

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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