Xinyang Maojian Group (HKG:362) Has Debt But No Earnings; Should You Worry?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Xinyang Maojian Group Limited (HKG:362) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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 Xinyang Maojian Group

What Is Xinyang Maojian Group's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 Xinyang Maojian Group had HK$1.21b of debt, an increase on HK$1.04b, over one year. On the flip side, it has HK$40.7m in cash leading to net debt of about HK$1.17b.

How Strong Is Xinyang Maojian Group's Balance Sheet?

The latest balance sheet data shows that Xinyang Maojian Group had liabilities of HK$486.8m due within a year, and liabilities of HK$1.23b falling due after that. Offsetting these obligations, it had cash of HK$40.7m as well as receivables valued at HK$88.3m due within 12 months. So its liabilities total HK$1.59b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the HK$463.4m company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Xinyang Maojian Group would probably need a major re-capitalization if its creditors were to demand repayment. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Xinyang Maojian Group 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 Xinyang Maojian Group had a loss before interest and tax, and actually shrunk its revenue by 3.4%, to HK$268m. That's not what we would hope to see.

Caveat Emptor

Importantly, Xinyang Maojian Group had an earnings before interest and tax (EBIT) loss over the last year. Its EBIT loss was a whopping HK$212m. Combining this information with the significant liabilities we already touched on makes us very hesitant about this stock, to say the least. Of course, it may be able to improve its situation with a bit of luck and good execution. But we think that is unlikely, given it is low on liquid assets, and burned through HK$17m in the last year. So we think this stock is risky, like walking through a dirty dog park with a mask on. 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. Be aware that Xinyang Maojian Group is showing 3 warning signs in our investment analysis , and 1 of those is potentially serious...

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.

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