Here's Why Shengli Oil & Gas Pipe Holdings (HKG:1080) Can Afford Some Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. Importantly, Shengli Oil & Gas Pipe Holdings Limited (HKG:1080) does carry debt. But is this debt a concern to shareholders?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Shengli Oil & Gas Pipe Holdings

What Is Shengli Oil & Gas Pipe Holdings's Net Debt?

As you can see below, Shengli Oil & Gas Pipe Holdings had CN¥283.0m of debt at June 2022, down from CN¥749.6m a year prior. However, it also had CN¥89.2m in cash, and so its net debt is CN¥193.8m.

How Strong Is Shengli Oil & Gas Pipe Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Shengli Oil & Gas Pipe Holdings had liabilities of CN¥461.4m due within 12 months and liabilities of CN¥2.03m due beyond that. Offsetting these obligations, it had cash of CN¥89.2m as well as receivables valued at CN¥173.0m due within 12 months. So its liabilities total CN¥201.2m more than the combination of its cash and short-term receivables.

Shengli Oil & Gas Pipe Holdings has a market capitalization of CN¥370.7m, 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. There's no doubt that we learn most about debt from the balance sheet. But it is Shengli Oil & Gas Pipe Holdings's earnings that will influence how the balance sheet holds up in the future. 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 Shengli Oil & Gas Pipe Holdings wasn't profitable at an EBIT level, but managed to grow its revenue by 30%, to CN¥1.5b. Shareholders probably have their fingers crossed that it can grow its way to profits.

Caveat Emptor

Despite the top line growth, Shengli Oil & Gas Pipe Holdings still had an earnings before interest and tax (EBIT) loss over the last year. Its EBIT loss was a whopping CN¥77m. 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. However, it doesn't help that it burned through CN¥5.8m of cash over the last year. So suffice it to say we do 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. Case in point: We've spotted 3 warning signs for Shengli Oil & Gas Pipe Holdings you should be aware of, and 2 of them 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.