Berkshire Hathaway’s Charlie Munger-backed external fund manager Li Lu is quick to say “The biggest risk in investing is not price volatility, but whether you will suffer a permanent loss of capital”. When we think about how risky a business is, we always like to look at its use of debt because debt overload can lead to bankruptcy. We can see that Grand TG Gold Holdings Limited (HKG: 8299) uses debt in his business. But should shareholders be concerned about its use of debt?
What risk does debt entail?
Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, then it exists at their mercy. An integral part of capitalism is the process of “creative destruction” where bankrupt companies are ruthlessly liquidated by their bankers. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. By replacing dilution, however, debt can be a very good tool for companies that need capital to invest in growth at high rates of return. The first step in examining a company’s debt levels is to consider its cash flow and debt together.
See our latest review for Grand TG Gold Holdings
What is the net debt of Grand TG Gold Holdings?
You can click on the graph below for historical figures, but it shows that in March 2021, Grand TG Gold Holdings had a debt of HK $ 446.8 million, an increase from HK $ 418.2 million. HK $, over one year. Net debt is about the same because it doesn’t have a lot of cash.
How strong is Grand TG Gold Holdings’ balance sheet?
We can see from the most recent balance sheet that Grand TG Gold Holdings had a liability of HK $ 207.2 million maturing within one year and a liability of HK $ 410.7 million beyond. On the other hand, he had HK $ 6.13 million in cash and HK $ 17.3 million in receivables due within one year. It therefore has liabilities totaling HK $ 594.5 million more than its cash and short-term receivables combined.
This deficit casts a shadow over the HK $ 88.3million company like a towering colossus of mere mortals. We therefore believe that shareholders should watch it closely. After all, Grand TG Gold Holdings would likely need a major recapitalization if it were to pay its creditors today. When analyzing debt levels, the balance sheet is the obvious starting point. But you can’t look at debt in isolation; since Grand TG Gold Holdings will need income to repay this debt. So, if you want to know more about its profits, it may be worth checking out this chart of its long term profit trend.
Over the past year, Grand TG Gold Holdings was not profitable on EBIT level, but managed to increase its revenue by 43%, to HK $ 100 million. The shareholders are probably keeping their fingers crossed that this could generate a profit.
While we can certainly appreciate the revenue growth of Grand TG Gold Holdings, its earnings before interest and taxes (EBIT) are not ideal. Indeed, he lost HK $ 2.3 million in EBIT level. When you combine this with the very large balance sheet liabilities mentioned above, we are so wary of them that we are basically at a loss for the right words. Of course, the company could have a great story on how it is heading towards a better future. But the reality is that he has few liquid assets compared to liabilities, and he lost HK $ 18 million last year. So we’re not very keen on owning this stock. It’s too risky for us. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks lie on the balance sheet – far from it. For example, Grand TG Gold Holdings has 3 warning signs (and 1 that shouldn’t be ignored) we think you should be aware of.
If you want to invest in companies that can generate profits without the burden of debt, check out this free list of growing companies that have net cash on the balance sheet.
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This Simply Wall St article is general in nature. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in the mentioned stocks.
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