Health Check: How Prudently Does USP Group (SGX:BRS) Use 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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies USP Group Limited (SGX:BRS) makes use of debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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 examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for USP Group

What Is USP Group's Debt?

As you can see below, USP Group had S$41.4m of debt at September 2020, down from S$48.0m a year prior. On the flip side, it has S$4.52m in cash leading to net debt of about S$36.9m.

How Strong Is USP Group's Balance Sheet?

According to the last reported balance sheet, USP Group had liabilities of S$49.5m due within 12 months, and liabilities of S$4.08m due beyond 12 months. Offsetting these obligations, it had cash of S$4.52m as well as receivables valued at S$7.34m due within 12 months. So it has liabilities totalling S$41.7m more than its cash and near-term receivables, combined.

This deficit casts a shadow over the S$8.94m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, USP Group would likely require a major re-capitalisation if it had to pay its creditors today. The balance sheet is clearly the area to focus on when you are analysing debt. But it is USP 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.

In the last year USP Group had a loss before interest and tax, and actually shrunk its revenue by 5.7%, to S$34m. We would much prefer see growth.

Caveat Emptor

Over the last twelve months USP Group produced an earnings before interest and tax (EBIT) loss. Its EBIT loss was a whopping S$984k. 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. Nevertheless, we would not bet on it given that it lost S$4.4m in just last twelve months, and it doesn't have much by way of liquid assets. So while it's not wise to assume the company will fail, we do think it's risky. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 3 warning signs for USP Group that you should be aware of before investing here.

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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