Is ShiFang Holding (HKG:1831) A Risky Investment?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. As with many other companies ShiFang Holding Limited (HKG:1831) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for ShiFang Holding

How Much Debt Does ShiFang Holding Carry?

As you can see below, at the end of December 2020, ShiFang Holding had CN¥186.0m of debt, up from CN¥156.9m a year ago. Click the image for more detail. On the flip side, it has CN¥26.2m in cash leading to net debt of about CN¥159.8m.

A Look At ShiFang Holding's Liabilities

We can see from the most recent balance sheet that ShiFang Holding had liabilities of CN¥100.7m falling due within a year, and liabilities of CN¥270.8m due beyond that. Offsetting this, it had CN¥26.2m in cash and CN¥10.3m in receivables that were due within 12 months. So its liabilities total CN¥335.1m more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the CN¥113.0m 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 definitely think shareholders need to watch this one closely. After all, ShiFang Holding would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since ShiFang Holding 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.

In the last year ShiFang Holding wasn't profitable at an EBIT level, but managed to grow its revenue by 3.2%, to CN¥126m. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Importantly, ShiFang Holding had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost a very considerable CN¥41m at the EBIT level. Combining this information with the significant liabilities we already touched on makes us very hesitant about this stock, to say the least. That said, it is possible that the company will turn its fortunes around. But we think that is unlikely since it is low on liquid assets, and made a loss of CN¥74m in the last year. So while it's not wise to assume the company will fail, we do think it's risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that ShiFang Holding is showing 3 warning signs in our investment analysis , and 1 of those makes us a bit uncomfortable...

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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