Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. We can see that Sun Art Retail Group Limited (HKG:6808) does use debt in its business. But the real question is whether this debt is making the company risky.
When Is Debt A Problem?
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. 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 examine debt levels, we first consider both cash and debt levels, together.
View our latest analysis for Sun Art Retail Group
What Is Sun Art Retail Group's Net Debt?
You can click the graphic below for the historical numbers, but it shows that as of March 2024 Sun Art Retail Group had CN¥1.75b of debt, an increase on CN¥673.0m, over one year. But it also has CN¥16.4b in cash to offset that, meaning it has CN¥14.7b net cash.
How Healthy Is Sun Art Retail Group's Balance Sheet?
According to the last reported balance sheet, Sun Art Retail Group had liabilities of CN¥33.5b due within 12 months, and liabilities of CN¥5.42b due beyond 12 months. Offsetting this, it had CN¥16.4b in cash and CN¥2.13b in receivables that were due within 12 months. So it has liabilities totalling CN¥20.4b more than its cash and near-term receivables, combined.
The deficiency here weighs heavily on the CN¥12.4b 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 definitely think shareholders need to watch this one closely. At the end of the day, Sun Art Retail Group would probably need a major re-capitalization if its creditors were to demand repayment. Given that Sun Art Retail Group has more cash than debt, we're pretty confident it can handle its debt, despite the fact that it has a lot of liabilities in total. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Sun Art Retail Group's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
In the last year Sun Art Retail Group had a loss before interest and tax, and actually shrunk its revenue by 13%, to CN¥73b. That's not what we would hope to see.
So How Risky Is Sun Art Retail Group?
Although Sun Art Retail Group had an earnings before interest and tax (EBIT) loss over the last twelve months, it generated positive free cash flow of CN¥907m. So although it is loss-making, it doesn't seem to have too much near-term balance sheet risk, keeping in mind the net cash. Given the lack of transparency around future revenue (and cashflow), we're nervous about this one, until it makes its first big sales. To us, it is a high risk play. For riskier companies like Sun Art Retail Group I always like to keep an eye on the long term profit and revenue trends. Fortunately, you can click to see our interactive graph of its profit, revenue, and operating cashflow.
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.