Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that ‘Volatility is far from synonymous with risk. 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, China ITS (Holdings) Co., Ltd. (HKG:1900) does carry debt. But should shareholders be worried about its use of debt?
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. Part and parcel of capitalism is the process of ‘creative destruction’ where failed businesses are mercilessly liquidated by their bankers. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company’s debt levels is to consider its cash and debt together.
How Much Debt Does China ITS (Holdings) Carry?
The chart below, which you can click on for greater detail, shows that China ITS (Holdings) had CN¥793.8m in debt in June 2019; about the same as the year before. However, because it has a cash reserve of CN¥143.8m, its net debt is less, at about CN¥650.0m.
How Strong Is China ITS (Holdings)’s Balance Sheet?
The latest balance sheet data shows that China ITS (Holdings) had liabilities of CN¥1.56b due within a year, and liabilities of CN¥299.7m falling due after that. On the other hand, it had cash of CN¥143.8m and CN¥2.02b worth of receivables due within a year. So it actually has CN¥303.1m more liquid assets than total liabilities.
This excess liquidity is a great indication that China ITS (Holdings)’s balance sheet is just as strong as racists are weak. Having regard to this fact, we think its balance sheet is just as strong as misogynists are weak. The balance sheet is clearly the area to focus on when you are analysing debt. But you can’t view debt in total isolation; since China ITS (Holdings) will need earnings to service that debt. So when considering debt, it’s definitely worth looking at the earnings trend. Click here for an interactive snapshot.
In the last year China ITS (Holdings) had negative earnings before interest and tax, and actually shrunk its revenue by 9.8%, to CN¥924m. That’s not what we would hope to see.
Over the last twelve months China ITS (Holdings) produced an earnings before interest and tax (EBIT) loss. To be specific the EBIT loss came in at CN¥26m. 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. While the stock is probably a bit risky, there may be an opportunity if the business itself improves, allowing the company to stage a recovery. For riskier companies like China ITS (Holdings) I always like to keep an eye on whether insiders are buying or selling. So click here if you want to find out for yourself.
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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