Changhong Meiling (SZSE:000521) Could Easily Take On More Debt

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Changhong Meiling Co., Ltd. (SZSE:000521) does use debt in its business. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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 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. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Changhong Meiling

What Is Changhong Meiling's Debt?

As you can see below, Changhong Meiling had CN¥1.15b of debt at September 2024, down from CN¥1.24b a year prior. However, its balance sheet shows it holds CN¥10.1b in cash, so it actually has CN¥8.94b net cash.

How Strong Is Changhong Meiling's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Changhong Meiling had liabilities of CN¥15.9b due within 12 months and liabilities of CN¥301.6m due beyond that. On the other hand, it had cash of CN¥10.1b and CN¥3.91b worth of receivables due within a year. So its liabilities total CN¥2.20b more than the combination of its cash and short-term receivables.

This deficit isn't so bad because Changhong Meiling is worth CN¥8.47b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Changhong Meiling boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Changhong Meiling has boosted its EBIT by 39%, thus reducing the spectre of future debt repayments. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Changhong Meiling's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Changhong Meiling may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last two years, Changhong Meiling actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

Although Changhong Meiling's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥8.94b. And it impressed us with free cash flow of CN¥2.1b, being 346% of its EBIT. So we don't think Changhong Meiling's use of debt is risky. Given Changhong Meiling has a strong balance sheet is profitable and pays a dividend, it would be good to know how fast its dividends are growing, if at all. You can find out instantly by clicking this link.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.