Is Sun Entertainment Group (HKG:8082) Using Too Much Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. Importantly, Sun Entertainment Group Limited (HKG:8082) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Sun Entertainment Group

How Much Debt Does Sun Entertainment Group Carry?

As you can see below, at the end of June 2021, Sun Entertainment Group had HK$35.0m of debt, up from none a year ago. Click the image for more detail. On the flip side, it has HK$25.6m in cash leading to net debt of about HK$9.39m.

How Strong Is Sun Entertainment Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Sun Entertainment Group had liabilities of HK$35.1m due within 12 months and liabilities of HK$39.2m due beyond that. On the other hand, it had cash of HK$25.6m and HK$38.8m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$9.89m.

Given Sun Entertainment Group has a market capitalization of HK$337.7m, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. There's no doubt that we learn most about debt from the balance sheet. But it is Sun Entertainment Group'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.

In the last year Sun Entertainment Group had a loss before interest and tax, and actually shrunk its revenue by 43%, to HK$47m. That makes us nervous, to say the least.

Caveat Emptor

Not only did Sun Entertainment Group's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping HK$43m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled HK$51m in negative free cash flow over the last twelve months. So in short it's a really risky stock. 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. To that end, you should learn about the 3 warning signs we've spotted with Sun Entertainment Group (including 2 which don't sit too well with us) .

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.
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