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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. 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. Importantly, BBMG Corporation (HKG:2009) does carry debt. But is this debt a concern to shareholders?
When Is Debt Dangerous?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
See our latest analysis for BBMG
What Is BBMG's Net Debt?
You can click the graphic below for the historical numbers, but it shows that as of June 2019 BBMG had CN¥111.8b of debt, an increase on CN¥106.4b, over one year. However, because it has a cash reserve of CN¥23.9b, its net debt is less, at about CN¥87.9b.
How Strong Is BBMG's Balance Sheet?
We can see from the most recent balance sheet that BBMG had liabilities of CN¥125.5b falling due within a year, and liabilities of CN¥70.2b due beyond that. Offsetting these obligations, it had cash of CN¥23.9b as well as receivables valued at CN¥26.1b due within 12 months. So it has liabilities totalling CN¥145.7b more than its cash and near-term receivables, combined.
This deficit casts a shadow over the CN¥32.4b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, BBMG would probably need a major re-capitalization if its creditors were to demand repayment.
In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.
BBMG has a rather high debt to EBITDA ratio of 6.0 which suggests a meaningful debt load. But the good news is that it boasts fairly comforting interest cover of 4.7 times, suggesting it can responsibly service its obligations. Importantly, BBMG grew its EBIT by 47% over the last twelve months, and that growth will make it easier to handle its debt. 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 BBMG 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.