Is Lai Sun Development (HKG:488) A Risky Investment?

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.' 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. We can see that Lai Sun Development Company Limited (HKG:488) does use debt in its business. But is this debt a concern to shareholders?

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. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.

View our latest analysis for Lai Sun Development

How Much Debt Does Lai Sun Development Carry?

You can click the graphic below for the historical numbers, but it shows that as of January 2021 Lai Sun Development had HK$23.1b of debt, an increase on HK$20.4b, over one year. However, it also had HK$6.08b in cash, and so its net debt is HK$17.0b.

How Strong Is Lai Sun Development's Balance Sheet?

According to the last reported balance sheet, Lai Sun Development had liabilities of HK$10.3b due within 12 months, and liabilities of HK$26.0b due beyond 12 months. Offsetting these obligations, it had cash of HK$6.08b as well as receivables valued at HK$313.7m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$30.0b.

The deficiency here weighs heavily on the HK$3.87b 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. At the end of the day, Lai Sun Development would probably need a major re-capitalization if its creditors were to demand repayment. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Lai Sun Development's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

In the last year Lai Sun Development had a loss before interest and tax, and actually shrunk its revenue by 5.0%, to HK$5.2b. We would much prefer see growth.

Caveat Emptor

Over the last twelve months Lai Sun Development produced an earnings before interest and tax (EBIT) loss. Indeed, it lost a very considerable HK$974m at the EBIT level. When you combine this with the very significant balance sheet liabilities mentioned above, we are so wary of it that we are basically at a loss for the right words. Sure, the company might have a nice story about how they are going on to a brighter future. But the reality is that it is low on liquid assets relative to liabilities, and it burned through HK$929m in the last year. So we consider this a high risk stock, and we're worried its share price could sink faster than than a dingy with a great white shark attacking it. 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, we've discovered 1 warning sign for Lai Sun Development that you should be aware of before investing here.

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. 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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