Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 can see that Shenzhen SDG Information Co., Ltd. (SZSE:000070) does use debt in its business. But should shareholders be worried about its use of debt?
What Risk Does Debt Bring?
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
See our latest analysis for Shenzhen SDG Information
What Is Shenzhen SDG Information's Net Debt?
As you can see below, Shenzhen SDG Information had CN¥2.80b of debt at June 2023, down from CN¥3.35b a year prior. On the flip side, it has CN¥974.4m in cash leading to net debt of about CN¥1.82b.
How Healthy Is Shenzhen SDG Information's Balance Sheet?
The latest balance sheet data shows that Shenzhen SDG Information had liabilities of CN¥4.12b due within a year, and liabilities of CN¥1.67b falling due after that. Offsetting this, it had CN¥974.4m in cash and CN¥2.99b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥1.83b.
While this might seem like a lot, it is not so bad since Shenzhen SDG Information has a market capitalization of CN¥7.42b, 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 Shenzhen SDG Information'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.
In the last year Shenzhen SDG Information wasn't profitable at an EBIT level, but managed to grow its revenue by 6.5%, to CN¥4.7b. That rate of growth is a bit slow for our taste, but it takes all types to make a world.
Caveat Emptor
Importantly, Shenzhen SDG Information had an earnings before interest and tax (EBIT) loss over the last year. To be specific the EBIT loss came in at CN¥3.1m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. For example, we would not want to see a repeat of last year's loss of CN¥79m. So to be blunt we do think it is risky. 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. Case in point: We've spotted 4 warning signs for Shenzhen SDG Information you should be aware of, and 2 of them are concerning.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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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.