Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 China Nature Energy Technology Holdings Limited (HKG:1597) makes use of debt. But is this debt a concern to shareholders?
Why Does Debt Bring Risk?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.
Check out our latest analysis for China Nature Energy Technology Holdings
What Is China Nature Energy Technology Holdings's Net Debt?
As you can see below, at the end of June 2024, China Nature Energy Technology Holdings had CN¥93.6m of debt, up from CN¥42.4m a year ago. Click the image for more detail. On the flip side, it has CN¥36.7m in cash leading to net debt of about CN¥56.9m.
How Healthy Is China Nature Energy Technology Holdings' Balance Sheet?
According to the last reported balance sheet, China Nature Energy Technology Holdings had liabilities of CN¥208.3m due within 12 months, and liabilities of CN¥9.80m due beyond 12 months. Offsetting this, it had CN¥36.7m in cash and CN¥220.6m in receivables that were due within 12 months. So it actually has CN¥39.1m more liquid assets than total liabilities.
This surplus suggests that China Nature Energy Technology Holdings has a conservative balance sheet, and could probably eliminate its debt without much difficulty. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since China Nature Energy Technology Holdings 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 China Nature Energy Technology Holdings had a loss before interest and tax, and actually shrunk its revenue by 18%, to CN¥210m. We would much prefer see growth.
Caveat Emptor
Not only did China Nature Energy Technology Holdings's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost CN¥20m at the EBIT level. On a more positive note, the company does have liquid assets, so it has a bit of time to improve its operations before the debt becomes an acute problem. But we'd want to see some positive free cashflow before spending much time on trying to understand the stock. This one is a bit too risky for our liking. 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. We've identified 1 warning sign with China Nature Energy Technology Holdings , and understanding them should be part of your investment process.
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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