Is Aurum Pacific (China) Group (HKG:8148) Using Too Much Debt?

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.' 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. As with many other companies Aurum Pacific (China) Group Limited (HKG:8148) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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 examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Aurum Pacific (China) Group

What Is Aurum Pacific (China) Group's Net Debt?

As you can see below, Aurum Pacific (China) Group had HK$35.8m of debt at June 2021, down from HK$38.2m a year prior. However, because it has a cash reserve of HK$9.48m, its net debt is less, at about HK$26.3m.

A Look At Aurum Pacific (China) Group's Liabilities

According to the balance sheet data, Aurum Pacific (China) Group had liabilities of HK$46.9m due within 12 months, but no longer term liabilities. Offsetting this, it had HK$9.48m in cash and HK$65.2m in receivables that were due within 12 months. So it actually has HK$27.8m more liquid assets than total liabilities.

This excess liquidity is a great indication that Aurum Pacific (China) Group's balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. There's no doubt that we learn most about debt from the balance sheet. But it is Aurum Pacific (China) 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.

Given it has no significant operating revenue at the moment, shareholders will be hoping Aurum Pacific (China) Group can make progress and gain better traction for the business, before it runs low on cash.

Caveat Emptor

Importantly, Aurum Pacific (China) Group had an earnings before interest and tax (EBIT) loss over the last year. To be specific the EBIT loss came in at HK$655k. 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. For instance, we've identified 4 warning signs for Aurum Pacific (China) Group (2 don't sit too well with us) you should be aware of.

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.

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.