Is China Silver Group (HKG:815) Using Debt In A Risky Way?

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that China Silver Group Limited (HKG:815) does use debt in its business. But is this debt a concern to shareholders?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for China Silver Group

What Is China Silver Group's Debt?

The image below, which you can click on for greater detail, shows that China Silver Group had debt of CN¥426.5m at the end of June 2023, a reduction from CN¥469.2m over a year. But on the other hand it also has CN¥598.2m in cash, leading to a CN¥171.7m net cash position.

How Strong Is China Silver Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that China Silver Group had liabilities of CN¥1.05b due within 12 months and liabilities of CN¥14.5m due beyond that. Offsetting this, it had CN¥598.2m in cash and CN¥129.8m in receivables that were due within 12 months. So it has liabilities totalling CN¥334.0m more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of CN¥291.9m, we think shareholders really should watch China Silver Group's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. China Silver Group boasts net cash, so it's fair to say it does not have a heavy debt load, even if it does have very significant liabilities, in total. 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 China Silver Group 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.

Over 12 months, China Silver Group reported revenue of CN¥5.1b, which is a gain of 303%, although it did not report any earnings before interest and tax. When it comes to revenue growth, that's like nailing the game winning 3-pointer!

So How Risky Is China Silver Group?

Although China Silver Group had an earnings before interest and tax (EBIT) loss over the last twelve months, it generated positive free cash flow of CN¥43m. So taking that on face value, and considering the net cash situation, we don't think that the stock is too risky in the near term. The saving grace for the stock is the strong revenue growth of 303% over the last twelve months. But we genuinely do think the balance sheet is a 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. Be aware that China Silver Group is showing 2 warning signs in our investment analysis , and 1 of those is concerning...

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.