Is Champion Alliance International Holdings (HKG:1629) A Risky Investment?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. Importantly, Champion Alliance International Holdings Limited (HKG:1629) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Champion Alliance International Holdings

What Is Champion Alliance International Holdings's Net Debt?

As you can see below, Champion Alliance International Holdings had CN¥41.8m of debt at June 2021, down from CN¥51.5m a year prior. However, it does have CN¥157.4m in cash offsetting this, leading to net cash of CN¥115.6m.

A Look At Champion Alliance International Holdings' Liabilities

We can see from the most recent balance sheet that Champion Alliance International Holdings had liabilities of CN¥278.7m falling due within a year, and liabilities of CN¥725.0k due beyond that. Offsetting these obligations, it had cash of CN¥157.4m as well as receivables valued at CN¥99.8m due within 12 months. So its liabilities total CN¥22.2m more than the combination of its cash and short-term receivables.

Since publicly traded Champion Alliance International Holdings shares are worth a total of CN¥241.0m, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, Champion Alliance International Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

The bad news is that Champion Alliance International Holdings saw its EBIT decline by 11% over the last year. If that sort of decline is not arrested, then the managing its debt will be harder than selling broccoli flavoured ice-cream for a premium. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Champion Alliance International Holdings will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Champion Alliance International Holdings may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Happily for any shareholders, Champion Alliance International Holdings actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Champion Alliance International Holdings has CN¥115.6m in net cash. The cherry on top was that in converted 330% of that EBIT to free cash flow, bringing in CN¥165m. So we are not troubled with Champion Alliance International Holdings's debt use. 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. For example - Champion Alliance International Holdings has 3 warning signs we think you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.