Warren Buffett famously said, 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Royal Group Co.,Ltd. (SZSE:002329) does use debt in its business. But is this debt a concern to shareholders?
What Risk Does Debt Bring?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.
See our latest analysis for Royal GroupLtd
What Is Royal GroupLtd's Net Debt?
You can click the graphic below for the historical numbers, but it shows that Royal GroupLtd had CN¥2.36b of debt in September 2023, down from CN¥2.80b, one year before. However, because it has a cash reserve of CN¥523.3m, its net debt is less, at about CN¥1.84b.
How Healthy Is Royal GroupLtd's Balance Sheet?
According to the last reported balance sheet, Royal GroupLtd had liabilities of CN¥2.95b due within 12 months, and liabilities of CN¥514.7m due beyond 12 months. Offsetting these obligations, it had cash of CN¥523.3m as well as receivables valued at CN¥781.5m due within 12 months. So it has liabilities totalling CN¥2.16b more than its cash and near-term receivables, combined.
Royal GroupLtd has a market capitalization of CN¥5.48b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Royal GroupLtd 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.
In the last year Royal GroupLtd wasn't profitable at an EBIT level, but managed to grow its revenue by 26%, to CN¥3.4b. With any luck the company will be able to grow its way to profitability.
Caveat Emptor
While we can certainly appreciate Royal GroupLtd's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. To be specific the EBIT loss came in at CN¥63m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. Another cause for caution is that is bled CN¥37m in negative free cash flow over the last twelve months. So suffice it to say we do 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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Royal GroupLtd (of which 1 is a bit concerning!) you should know about.
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.
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.