Is Hengtong Logistics (SHSE:603223) Using Too Much Debt?

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. We can see that Hengtong Logistics Co., Ltd. (SHSE:603223) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Hengtong Logistics

What Is Hengtong Logistics's Debt?

As you can see below, at the end of September 2024, Hengtong Logistics had CN¥883.9m of debt, up from CN¥457.2m a year ago. Click the image for more detail. However, it does have CN¥1.92b in cash offsetting this, leading to net cash of CN¥1.03b.

How Strong Is Hengtong Logistics' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Hengtong Logistics had liabilities of CN¥1.07b due within 12 months and liabilities of CN¥634.1m due beyond that. On the other hand, it had cash of CN¥1.92b and CN¥221.9m worth of receivables due within a year. So it can boast CN¥436.5m more liquid assets than total liabilities.

This short term liquidity is a sign that Hengtong Logistics could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Hengtong Logistics has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Hengtong Logistics has boosted its EBIT by 33%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Hengtong Logistics'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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Hengtong Logistics 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 three years, Hengtong Logistics saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Hengtong Logistics has net cash of CN¥1.03b, as well as more liquid assets than liabilities. And we liked the look of last year's 33% year-on-year EBIT growth. So we don't have any problem with Hengtong Logistics's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 1 warning sign we've spotted with Hengtong Logistics .

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.