Is Sincere Watch (Hong Kong) (HKG:444) 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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Sincere Watch (Hong Kong) Limited (HKG:444) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Sincere Watch (Hong Kong)

What Is Sincere Watch (Hong Kong)'s Net Debt?

The image below, which you can click on for greater detail, shows that at September 2023 Sincere Watch (Hong Kong) had debt of HK$308.2m, up from HK$253.2m in one year. However, it does have HK$75.5m in cash offsetting this, leading to net debt of about HK$232.8m.

How Healthy Is Sincere Watch (Hong Kong)'s Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Sincere Watch (Hong Kong) had liabilities of HK$209.4m due within 12 months and liabilities of HK$330.8m due beyond that. Offsetting this, it had HK$75.5m in cash and HK$57.8m in receivables that were due within 12 months. So it has liabilities totalling HK$406.9m more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the HK$205.5m 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, Sincere Watch (Hong Kong) 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 Sincere Watch (Hong Kong)'s earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Sincere Watch (Hong Kong) reported revenue of HK$143m, which is a gain of 14%, although it did not report any earnings before interest and tax. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

Caveat Emptor

Over the last twelve months Sincere Watch (Hong Kong) produced an earnings before interest and tax (EBIT) loss. Its EBIT loss was a whopping HK$167m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it had negative free cash flow of HK$8.8m over the last twelve months. So suffice it to say we consider the stock to be risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Sincere Watch (Hong Kong) is showing 3 warning signs in our investment analysis , and 2 of those are a bit unpleasant...

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.