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 Miracle Automation Engineering Co.Ltd (SZSE:002009) makes use of debt. But should shareholders be worried about its use of debt?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.
See our latest analysis for Miracle Automation EngineeringLtd
What Is Miracle Automation EngineeringLtd's Debt?
As you can see below, Miracle Automation EngineeringLtd had CN¥2.15b of debt at September 2023, down from CN¥2.47b a year prior. However, it also had CN¥1.02b in cash, and so its net debt is CN¥1.13b.
How Strong Is Miracle Automation EngineeringLtd's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Miracle Automation EngineeringLtd had liabilities of CN¥3.89b due within 12 months and liabilities of CN¥759.7m due beyond that. Offsetting these obligations, it had cash of CN¥1.02b as well as receivables valued at CN¥2.20b due within 12 months. So it has liabilities totalling CN¥1.43b more than its cash and near-term receivables, combined.
Miracle Automation EngineeringLtd has a market capitalization of CN¥6.51b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. 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 ultimately the future profitability of the business will decide if Miracle Automation EngineeringLtd can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
In the last year Miracle Automation EngineeringLtd had a loss before interest and tax, and actually shrunk its revenue by 9.0%, to CN¥3.9b. That's not what we would hope to see.
Caveat Emptor
Importantly, Miracle Automation EngineeringLtd had an earnings before interest and tax (EBIT) loss over the last year. To be specific the EBIT loss came in at CN¥236m. 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. Another cause for caution is that is bled CN¥192m 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. Case in point: We've spotted 3 warning signs for Miracle Automation EngineeringLtd you should be aware of, and 1 of them shouldn't be ignored.
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.
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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.