Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. Importantly, Sanquan Food Co., Ltd. (SZSE:002216) does carry debt. But the more important question is: how much risk is that debt creating?
Why Does Debt Bring Risk?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.
Check out our latest analysis for Sanquan Food
How Much Debt Does Sanquan Food Carry?
As you can see below, at the end of March 2024, Sanquan Food had CN„260.4m of debt, up from CN„150.0m a year ago. Click the image for more detail. But it also has CN„1.76b in cash to offset that, meaning it has CN„1.50b net cash.
How Healthy Is Sanquan Food's Balance Sheet?
We can see from the most recent balance sheet that Sanquan Food had liabilities of CN„2.27b falling due within a year, and liabilities of CN„262.9m due beyond that. Offsetting this, it had CN„1.76b in cash and CN„446.3m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN„327.5m.
Since publicly traded Sanquan Food shares are worth a total of CN„10.1b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Sanquan Food also has more cash than debt, so we're pretty confident it can manage its debt safely.
But the bad news is that Sanquan Food has seen its EBIT plunge 17% in the last twelve months. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Sanquan Food can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Sanquan Food 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, Sanquan Food recorded free cash flow worth a fulsome 82% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.
Summing Up
While it is always sensible to look at a company's total liabilities, it is very reassuring that Sanquan Food has CN„1.50b in net cash. And it impressed us with free cash flow of CN„591m, being 82% of its EBIT. So we are not troubled with Sanquan Food's debt use. 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. We've identified 1 warning sign with Sanquan Food , and understanding them should be part of your investment process.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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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.
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About SZSE:002216
Undervalued established dividend payer.