We Think China Environmental Energy Investment (HKG:986) Has A Fair Chunk Of Debt

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 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. We can see that China Environmental Energy Investment Limited (HKG:986) does use debt in its business. But the real question is whether this debt is making the company risky.

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for China Environmental Energy Investment

How Much Debt Does China Environmental Energy Investment Carry?

As you can see below, at the end of September 2020, China Environmental Energy Investment had HK$26.1m of debt, up from HK$16.0m a year ago. Click the image for more detail. However, it also had HK$16.9m in cash, and so its net debt is HK$9.16m.

A Look At China Environmental Energy Investment's Liabilities

According to the last reported balance sheet, China Environmental Energy Investment had liabilities of HK$29.6m due within 12 months, and liabilities of HK$19.9m due beyond 12 months. On the other hand, it had cash of HK$16.9m and HK$160.0m worth of receivables due within a year. So it can boast HK$127.4m more liquid assets than total liabilities.

This surplus liquidity suggests that China Environmental Energy Investment's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. Having regard to this fact, we think its balance sheet is just as strong as misogynists are weak. There's no doubt that we learn most about debt from the balance sheet. But it is China Environmental Energy Investment'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, China Environmental Energy Investment made a loss at the EBIT level, and saw its revenue drop to HK$64m, which is a fall of 55%. To be frank that doesn't bode well.

Caveat Emptor

Not only did China Environmental Energy Investment's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost HK$13m at the EBIT level. That said, we're impressed with the strong balance sheet liquidity. That will give the company some time and space to grow and develop its business as need be. The company is risky because it will grow into the future to get to profitability and free cash flow. 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. To that end, you should learn about the 2 warning signs we've spotted with China Environmental Energy Investment (including 1 which is makes us a bit uncomfortable) .

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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