Is Sino Oil and Gas Holdings (HKG:702) Using Debt Sensibly?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 note that Sino Oil and Gas Holdings Limited (HKG:702) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Sino Oil and Gas Holdings

How Much Debt Does Sino Oil and Gas Holdings Carry?

You can click the graphic below for the historical numbers, but it shows that as of June 2021 Sino Oil and Gas Holdings had HK$2.16b of debt, an increase on HK$2.00b, over one year. On the flip side, it has HK$78.2m in cash leading to net debt of about HK$2.09b.

How Healthy Is Sino Oil and Gas Holdings' Balance Sheet?

The latest balance sheet data shows that Sino Oil and Gas Holdings had liabilities of HK$2.20b due within a year, and liabilities of HK$824.2m falling due after that. On the other hand, it had cash of HK$78.2m and HK$233.4m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$2.71b.

The deficiency here weighs heavily on the HK$639.0m 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. After all, Sino Oil and Gas Holdings would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Sino Oil and Gas 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 Sino Oil and Gas Holdings had a loss before interest and tax, and actually shrunk its revenue by 24%, to HK$335m. That makes us nervous, to say the least.

Caveat Emptor

While Sino Oil and Gas Holdings's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable HK$125m at the EBIT level. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. Of course, it may be able to improve its situation with a bit of luck and good execution. Nevertheless, we would not bet on it given that it vaporized HK$209m in cash over the last twelve months, and it doesn't have much by way of liquid assets. So we consider this a high risk stock and we wouldn't be at all surprised if the company asks shareholders for money before long. 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. We've identified 4 warning signs with Sino Oil and Gas Holdings (at least 1 which is concerning) , 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.

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.

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