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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Konka Group Co., Ltd. (SZSE:000016) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. 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, 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. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Konka Group

What Is Konka Group's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Konka Group had CN¥21.9b of debt in March 2022, down from CN¥24.5b, one year before. However, it does have CN¥6.16b in cash offsetting this, leading to net debt of about CN¥15.8b.

How Strong Is Konka Group's Balance Sheet?

According to the last reported balance sheet, Konka Group had liabilities of CN¥21.4b due within 12 months, and liabilities of CN¥8.73b due beyond 12 months. On the other hand, it had cash of CN¥6.16b and CN¥6.38b worth of receivables due within a year. So its liabilities total CN¥17.6b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the CN¥11.2b 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'd watch its balance sheet closely, without a doubt. After all, Konka Group would likely require a major re-capitalisation if it had to pay its creditors today. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Konka Group's earnings that will influence how the balance sheet holds up in the future. 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 Konka Group had a loss before interest and tax, and actually shrunk its revenue by 9.1%, to CN¥48b. That's not what we would hope to see.

Caveat Emptor

Over the last twelve months Konka Group produced an earnings before interest and tax (EBIT) loss. Its EBIT loss was a whopping CN¥2.3b. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it had negative free cash flow of CN¥5.0b over the last twelve months. So suffice it to say we consider the stock to be risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 5 warning signs we've spotted with Konka Group (including 3 which are potentially serious) .

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.

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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.