Is Strong Petrochemical Holdings (HKG:852) A Risky Investment?

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 seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Strong Petrochemical Holdings Limited (HKG:852) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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.

See our latest analysis for Strong Petrochemical Holdings

How Much Debt Does Strong Petrochemical Holdings Carry?

You can click the graphic below for the historical numbers, but it shows that Strong Petrochemical Holdings had HK$141.6m of debt in June 2021, down from HK$336.9m, one year before. However, it does have HK$133.4m in cash offsetting this, leading to net debt of about HK$8.18m.

How Strong Is Strong Petrochemical Holdings' Balance Sheet?

According to the balance sheet data, Strong Petrochemical Holdings had liabilities of HK$387.9m due within 12 months, but no longer term liabilities. Offsetting this, it had HK$133.4m in cash and HK$795.9m in receivables that were due within 12 months. So it actually has HK$541.4m more liquid assets than total liabilities.

This luscious liquidity implies that Strong Petrochemical Holdings' balance sheet is sturdy like a giant sequoia tree. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Carrying virtually no net debt, Strong Petrochemical Holdings has a very light debt load indeed. There's no doubt that we learn most about debt from the balance sheet. But it is Strong Petrochemical Holdings'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 Strong Petrochemical Holdings had a loss before interest and tax, and actually shrunk its revenue by 84%, to HK$2.0b. That makes us nervous, to say the least.

Caveat Emptor

Not only did Strong Petrochemical Holdings's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost HK$50m at the EBIT level. That said, we're impressed with the strong balance sheet liquidity. That should give the business time to grow its cashflow. The company is risky because it will grow into the future to get to profitability and free cash flow. 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. To that end, you should be aware of the 1 warning sign we've spotted with Strong Petrochemical Holdings .

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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