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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. So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies China First Capital Group Limited (HKG:1269) makes use of debt. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
Check out our latest analysis for China First Capital Group
What Is China First Capital Group's Debt?
You can click the graphic below for the historical numbers, but it shows that China First Capital Group had CN¥3.56b of debt in June 2019, down from CN¥4.01b, one year before. However, because it has a cash reserve of CN¥2.49b, its net debt is less, at about CN¥1.07b.
How Healthy Is China First Capital Group's Balance Sheet?
The latest balance sheet data shows that China First Capital Group had liabilities of CN¥4.34b due within a year, and liabilities of CN¥1.72b falling due after that. Offsetting these obligations, it had cash of CN¥2.49b as well as receivables valued at CN¥1.80b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥1.78b.
Of course, China First Capital Group has a market capitalization of CN¥10.2b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since China First Capital Group will need earnings to service that debt. 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 China First Capital Group had negative earnings before interest and tax, and actually shrunk its revenue by 25%, to CN¥1.4b. To be frank that doesn't bode well.