Would Nanfang Communication Holdings (HKG:1617) Be Better Off With Less Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. We note that Nanfang Communication Holdings Limited (HKG:1617) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Nanfang Communication Holdings

What Is Nanfang Communication Holdings's Debt?

The image below, which you can click on for greater detail, shows that at June 2023 Nanfang Communication Holdings had debt of CN¥500.2m, up from CN¥448.2m in one year. However, it also had CN¥306.0m in cash, and so its net debt is CN¥194.2m.

A Look At Nanfang Communication Holdings' Liabilities

According to the last reported balance sheet, Nanfang Communication Holdings had liabilities of CN¥609.1m due within 12 months, and liabilities of CN¥127.0m due beyond 12 months. Offsetting this, it had CN¥306.0m in cash and CN¥387.3m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥42.8m.

Nanfang Communication Holdings has a market capitalization of CN¥159.0m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Nanfang Communication Holdings'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.

In the last year Nanfang Communication Holdings had a loss before interest and tax, and actually shrunk its revenue by 7.2%, to CN¥564m. We would much prefer see growth.

Caveat Emptor

Importantly, Nanfang Communication Holdings had an earnings before interest and tax (EBIT) loss over the last year. Its EBIT loss was a whopping CN¥27m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through CN¥15m of cash over the last year. So in short it's a really risky stock. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for Nanfang Communication Holdings (1 is a bit concerning) you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.