Is Southern Packaging Group (SGX:BQP) Using Debt Sensibly?

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 Southern Packaging Group Limited (SGX:BQP) 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 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. If things get really bad, the lenders can take control of the business. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Southern Packaging Group

What Is Southern Packaging Group's Net Debt?

The chart below, which you can click on for greater detail, shows that Southern Packaging Group had CN¥382.2m in debt in December 2022; about the same as the year before. However, it does have CN¥67.7m in cash offsetting this, leading to net debt of about CN¥314.5m.

A Look At Southern Packaging Group's Liabilities

Zooming in on the latest balance sheet data, we can see that Southern Packaging Group had liabilities of CN¥634.7m due within 12 months and liabilities of CN¥73.8m due beyond that. Offsetting this, it had CN¥67.7m in cash and CN¥168.7m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥472.0m.

The deficiency here weighs heavily on the CN¥174.3m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, Southern Packaging Group would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But it is Southern Packaging Group's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Southern Packaging Group made a loss at the EBIT level, and saw its revenue drop to CN¥604m, which is a fall of 22%. To be frank that doesn't bode well.

Caveat Emptor

While Southern Packaging Group's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable CN¥33m at the EBIT level. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. That said, it is possible that the company will turn its fortunes around. But we think that is unlikely since it is low on liquid assets, and made a loss of CN¥36m in the last year. So while it's not wise to assume the company will fail, we do think it's risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 4 warning signs for Southern Packaging Group (3 make us uncomfortable) you should be aware of.

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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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.