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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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Feishang Anthracite Resources Limited (HKG:1738) does use debt in its business. But the real question is whether this debt is making the company risky.
When Is Debt Dangerous?
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 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.
View our latest analysis for Feishang Anthracite Resources
What Is Feishang Anthracite Resources's Debt?
As you can see below, Feishang Anthracite Resources had CN¥2.35b of debt at December 2018, down from CN¥2.67b a year prior. However, it does have CN¥77.9m in cash offsetting this, leading to net debt of about CN¥2.28b.
How Strong Is Feishang Anthracite Resources's Balance Sheet?
We can see from the most recent balance sheet that Feishang Anthracite Resources had liabilities of CN¥2.08b falling due within a year, and liabilities of CN¥1.50b due beyond that. Offsetting these obligations, it had cash of CN¥77.9m as well as receivables valued at CN¥192.5m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥3.31b.
The deficiency here weighs heavily on the CN¥1.36b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, Feishang Anthracite Resources would probably need a major re-capitalization if its creditors were to demand repayment.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.