Does COSCO SHIPPING Energy Transportation (HKG:1138) Have A Healthy Balance Sheet?

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.' 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 COSCO SHIPPING Energy Transportation Co., Ltd. (HKG:1138) does use debt in its business. But the more important question is: how much risk is that debt creating?

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. If things get really bad, the lenders can take control of the business. 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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for COSCO SHIPPING Energy Transportation

What Is COSCO SHIPPING Energy Transportation's Net Debt?

The chart below, which you can click on for greater detail, shows that COSCO SHIPPING Energy Transportation had CN¥23.8b in debt in March 2022; about the same as the year before. On the flip side, it has CN¥2.72b in cash leading to net debt of about CN¥21.1b.

How Strong Is COSCO SHIPPING Energy Transportation's Balance Sheet?

According to the last reported balance sheet, COSCO SHIPPING Energy Transportation had liabilities of CN¥12.9b due within 12 months, and liabilities of CN¥16.8b due beyond 12 months. Offsetting this, it had CN¥2.72b in cash and CN¥2.05b in receivables that were due within 12 months. So it has liabilities totalling CN¥24.9b more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since COSCO SHIPPING Energy Transportation has a market capitalization of CN¥52.1b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if COSCO SHIPPING Energy Transportation can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Over 12 months, COSCO SHIPPING Energy Transportation made a loss at the EBIT level, and saw its revenue drop to CN¥13b, which is a fall of 15%. That's not what we would hope to see.

Caveat Emptor

Not only did COSCO SHIPPING Energy Transportation's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). To be specific the EBIT loss came in at CN¥93m. 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¥5.3b into a profit. So we do think this stock is quite 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. We've identified 2 warning signs with COSCO SHIPPING Energy Transportation (at least 1 which is a bit unpleasant) , and understanding them should be part of your investment process.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.