Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Sino Gas Holdings Group Limited (HKG:1759) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
See our latest analysis for Sino Gas Holdings Group
How Much Debt Does Sino Gas Holdings Group Carry?
The image below, which you can click on for greater detail, shows that Sino Gas Holdings Group had debt of CN¥140.9m at the end of June 2020, a reduction from CN¥261.7m over a year. But on the other hand it also has CN¥199.6m in cash, leading to a CN¥58.7m net cash position.
A Look At Sino Gas Holdings Group's Liabilities
We can see from the most recent balance sheet that Sino Gas Holdings Group had liabilities of CN¥205.7m falling due within a year, and liabilities of CN¥42.8m due beyond that. Offsetting these obligations, it had cash of CN¥199.6m as well as receivables valued at CN¥119.1m due within 12 months. So it actually has CN¥70.0m more liquid assets than total liabilities.
It's good to see that Sino Gas Holdings Group has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Sino Gas Holdings Group has more cash than debt is arguably a good indication that it can manage its debt safely.
Importantly, Sino Gas Holdings Group's EBIT fell a jaw-dropping 20% in the last twelve months. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. When analysing debt levels, the balance sheet is the obvious place to start. But it is Sino Gas Holdings 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.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Sino Gas Holdings Group may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, Sino Gas Holdings Group burned a lot of cash. 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 Sino Gas Holdings Group has CN¥58.7m in net cash and a decent-looking balance sheet. So although we see some areas for improvement, we're not too worried about Sino Gas Holdings Group's balance sheet. 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. Consider for instance, the ever-present spectre of investment risk. We've identified 5 warning signs with Sino Gas Holdings Group (at least 2 which are concerning) , and understanding them should be part of your investment process.
Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.
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About SEHK:1759
Sino Gas Holdings Group
Engages in the retail and wholesale of liquefied petroleum gas (LPG), compressed natural gas (CNG), and liquefied natural gas (LNG) in the People’s Republic of China.
Medium-low with mediocre balance sheet.