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 can see that Kidztech Holdings Limited (HKG:6918) does use debt in its business. But the more important question is: how much risk is that debt creating?
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. If things get really bad, the lenders can take control of the business. 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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.
Check out our latest analysis for Kidztech Holdings
What Is Kidztech Holdings's Debt?
You can click the graphic below for the historical numbers, but it shows that as of June 2024 Kidztech Holdings had CN¥173.2m of debt, an increase on CN¥164.3m, over one year. On the flip side, it has CN¥47.3m in cash leading to net debt of about CN¥125.9m.
A Look At Kidztech Holdings' Liabilities
Zooming in on the latest balance sheet data, we can see that Kidztech Holdings had liabilities of CN¥316.6m due within 12 months and no liabilities due beyond that. Offsetting this, it had CN¥47.3m in cash and CN¥247.7m in receivables that were due within 12 months. So its liabilities total CN¥21.6m more than the combination of its cash and short-term receivables.
This deficit isn't so bad because Kidztech Holdings is worth CN¥83.7m, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Kidztech Holdings will need earnings to service that debt. 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 Kidztech Holdings wasn't profitable at an EBIT level, but managed to grow its revenue by 8.0%, to CN¥129m. We usually like to see faster growth from unprofitable companies, but each to their own.
Caveat Emptor
Over the last twelve months Kidztech Holdings produced an earnings before interest and tax (EBIT) loss. Indeed, it lost a very considerable CN¥65m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through CN¥3.1m of cash over the last year. So to be blunt we think it is risky. 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. To that end, you should learn about the 4 warning signs we've spotted with Kidztech Holdings (including 2 which make us uncomfortable) .
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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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.