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.' 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 note that Sunsea AIoT Technology Co., Ltd. (SZSE:002313) does have debt on its balance sheet. But is this debt a concern to shareholders?
What Risk Does Debt Bring?
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.
See our latest analysis for Sunsea AIoT Technology
What Is Sunsea AIoT Technology's Net Debt?
You can click the graphic below for the historical numbers, but it shows that Sunsea AIoT Technology had CN¥1.36b of debt in September 2023, down from CN¥1.66b, one year before. On the flip side, it has CN¥325.5m in cash leading to net debt of about CN¥1.04b.
A Look At Sunsea AIoT Technology's Liabilities
We can see from the most recent balance sheet that Sunsea AIoT Technology had liabilities of CN¥3.46b falling due within a year, and liabilities of CN¥208.9m due beyond that. Offsetting these obligations, it had cash of CN¥325.5m as well as receivables valued at CN¥1.74b due within 12 months. So its liabilities total CN¥1.60b more than the combination of its cash and short-term receivables.
While this might seem like a lot, it is not so bad since Sunsea AIoT Technology has a market capitalization of CN¥4.00b, and so it could probably strengthen its balance sheet by raising capital if it needed to. 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 it is Sunsea AIoT Technology's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Over 12 months, Sunsea AIoT Technology made a loss at the EBIT level, and saw its revenue drop to CN¥3.0b, which is a fall of 26%. To be frank that doesn't bode well.
Caveat Emptor
Not only did Sunsea AIoT Technology's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping CN¥426m. 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. For example, we would not want to see a repeat of last year's loss of CN¥608m. So in short it's a really risky stock. 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. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Sunsea AIoT Technology you should know about.
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.