Here's Why Touyun Biotech Group (HKG:1332) Can Afford Some Debt

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. Importantly, Touyun Biotech Group Limited (HKG:1332) does carry debt. But the real question is whether this debt is making the company risky.

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. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Touyun Biotech Group

What Is Touyun Biotech Group's Net Debt?

As you can see below, at the end of June 2021, Touyun Biotech Group had HK$375.1m of debt, up from HK$199.1m a year ago. Click the image for more detail. On the flip side, it has HK$165.3m in cash leading to net debt of about HK$209.8m.

How Strong Is Touyun Biotech Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Touyun Biotech Group had liabilities of HK$511.5m due within 12 months and liabilities of HK$6.14m due beyond that. On the other hand, it had cash of HK$165.3m and HK$316.2m worth of receivables due within a year. So it has liabilities totalling HK$36.1m more than its cash and near-term receivables, combined.

This state of affairs indicates that Touyun Biotech Group's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the HK$3.36b company is short on cash, but still worth keeping an eye on the balance sheet. There's no doubt that we learn most about debt from the balance sheet. But it is Touyun Biotech Group'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.

Over 12 months, Touyun Biotech Group saw its revenue hold pretty steady, and it did not report positive earnings before interest and tax. While that hardly impresses, its not too bad either.

Caveat Emptor

Importantly, Touyun Biotech Group had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost HK$39m at the EBIT level. 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. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through HK$398m of cash over the last year. So suffice it to say we consider the stock very risky. 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. Case in point: We've spotted 2 warning signs for Touyun Biotech Group you should be aware of, and 1 of them is a bit unpleasant.

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.