The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 note that LingNan Eco&Culture-Tourism Co.,Ltd. (SZSE:002717) does have debt on its balance sheet. But is this debt a concern to shareholders?
Why Does Debt Bring Risk?
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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.
See our latest analysis for LingNan Eco&Culture-TourismLtd
What Is LingNan Eco&Culture-TourismLtd's Debt?
The image below, which you can click on for greater detail, shows that at September 2023 LingNan Eco&Culture-TourismLtd had debt of CN¥4.36b, up from CN¥3.75b in one year. However, it also had CN¥638.9m in cash, and so its net debt is CN¥3.72b.
How Strong Is LingNan Eco&Culture-TourismLtd's Balance Sheet?
The latest balance sheet data shows that LingNan Eco&Culture-TourismLtd had liabilities of CN¥12.7b due within a year, and liabilities of CN¥759.2m falling due after that. On the other hand, it had cash of CN¥638.9m and CN¥9.26b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥3.59b.
This is a mountain of leverage relative to its market capitalization of CN¥4.87b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But it is LingNan Eco&Culture-TourismLtd'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 LingNan Eco&Culture-TourismLtd had a loss before interest and tax, and actually shrunk its revenue by 27%, to CN¥2.5b. To be frank that doesn't bode well.
Caveat Emptor
Not only did LingNan Eco&Culture-TourismLtd's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost a very considerable CN¥1.0b at the EBIT level. 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. However, it doesn't help that it burned through CN¥380m of cash over the last year. So suffice it to say we consider the stock very 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. Be aware that LingNan Eco&Culture-TourismLtd is showing 2 warning signs in our investment analysis , 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.