Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. As with many other companies Citychamp Dartong Co.,Ltd. (SHSE:600067) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Citychamp DartongLtd

How Much Debt Does Citychamp DartongLtd Carry?

As you can see below, Citychamp DartongLtd had CN¥5.64b of debt at March 2022, down from CN¥7.26b a year prior. However, it also had CN¥1.56b in cash, and so its net debt is CN¥4.08b.

How Strong Is Citychamp DartongLtd's Balance Sheet?

According to the last reported balance sheet, Citychamp DartongLtd had liabilities of CN¥13.1b due within 12 months, and liabilities of CN¥2.47b due beyond 12 months. Offsetting these obligations, it had cash of CN¥1.56b as well as receivables valued at CN¥1.54b due within 12 months. So its liabilities total CN¥12.4b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the CN¥4.79b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, Citychamp DartongLtd would probably need a major re-capitalization if its creditors were to demand repayment. 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 Citychamp DartongLtd 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.

Over 12 months, Citychamp DartongLtd made a loss at the EBIT level, and saw its revenue drop to CN¥9.9b, which is a fall of 2.4%. That's not what we would hope to see.

Caveat Emptor

Over the last twelve months Citychamp DartongLtd produced an earnings before interest and tax (EBIT) loss. Indeed, it lost CN¥309m at the EBIT level. Combining this information with the significant liabilities we already touched on makes us very hesitant about this stock, to say the least. Of course, it may be able to improve its situation with a bit of luck and good execution. Nevertheless, we would not bet on it given that it lost CN¥968m in just last twelve months, and it doesn't have much by way of liquid assets. So we think this stock is quite risky. We'd prefer to pass. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 4 warning signs with Citychamp DartongLtd (at least 1 which can't be ignored) , and understanding them should be part of your investment process.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.