Rare Earth Magnesium Technology Group Holdings (HKG:601) Has Debt But No Earnings; Should You Worry?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Rare Earth Magnesium Technology Group Holdings Limited (HKG:601) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Rare Earth Magnesium Technology Group Holdings

What Is Rare Earth Magnesium Technology Group Holdings's Net Debt?

As you can see below, Rare Earth Magnesium Technology Group Holdings had HK$883.8m of debt, at June 2022, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has HK$26.3m in cash leading to net debt of about HK$857.6m.

How Healthy Is Rare Earth Magnesium Technology Group Holdings' Balance Sheet?

According to the last reported balance sheet, Rare Earth Magnesium Technology Group Holdings had liabilities of HK$1.05b due within 12 months, and liabilities of HK$74.5m due beyond 12 months. Offsetting these obligations, it had cash of HK$26.3m as well as receivables valued at HK$62.5m due within 12 months. So its liabilities total HK$1.04b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the HK$126.4m 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'd watch its balance sheet closely, without a doubt. After all, Rare Earth Magnesium Technology Group Holdings would likely require a major re-capitalisation if it had to pay its creditors today. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Rare Earth Magnesium Technology Group Holdings's earnings that will influence how the balance sheet holds up in the future. 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.

Over 12 months, Rare Earth Magnesium Technology Group Holdings made a loss at the EBIT level, and saw its revenue drop to HK$472m, which is a fall of 16%. That's not what we would hope to see.

Caveat Emptor

While Rare Earth Magnesium Technology Group 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. Its EBIT loss was a whopping HK$120m. Reflecting on this and the significant total liabilities, it's hard to know what to say about the stock because of our intense dis-affinity for it. Like every long-shot we're sure it has a glossy presentation outlining its blue-sky potential. But the reality is that it is low on liquid assets relative to liabilities, and it lost HK$381m in the last year. So we're not very excited about owning this stock. Its too risky for us. 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. These risks can be hard to spot. Every company has them, and we've spotted 5 warning signs for Rare Earth Magnesium Technology Group Holdings (of which 3 shouldn't be ignored!) you should know about.

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.

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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.