Is YH Entertainment Group (HKG:2306) 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.' 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. As with many other companies YH Entertainment Group (HKG:2306) makes use of debt. But the more important question is: how much risk is that debt creating?

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What Risk Does Debt Bring?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

How Much Debt Does YH Entertainment Group Carry?

The image below, which you can click on for greater detail, shows that YH Entertainment Group had debt of CN¥162.3m at the end of December 2024, a reduction from CN¥266.2m over a year. But on the other hand it also has CN¥1.07b in cash, leading to a CN¥904.5m net cash position.

How Healthy Is YH Entertainment Group's Balance Sheet?

We can see from the most recent balance sheet that YH Entertainment Group had liabilities of CN¥555.3m falling due within a year, and liabilities of CN¥99.3m due beyond that. Offsetting these obligations, it had cash of CN¥1.07b as well as receivables valued at CN¥71.9m due within 12 months. So it actually has CN¥484.2m more liquid assets than total liabilities.

It's good to see that YH Entertainment Group has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Succinctly put, YH Entertainment Group boasts net cash, so it's fair to say it does not have a heavy debt load!

Check out our latest analysis for YH Entertainment Group

The modesty of its debt load may become crucial for YH Entertainment Group if management cannot prevent a repeat of the 86% cut to EBIT over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since YH Entertainment 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While YH Entertainment Group has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, YH Entertainment Group saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing Up

While it is always sensible to investigate a company's debt, in this case YH Entertainment Group has CN¥904.5m in net cash and a decent-looking balance sheet. So we don't have any problem with YH Entertainment Group's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example YH Entertainment Group has 3 warning signs (and 2 which are significant) we think you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.