These 4 Measures Indicate That Heren HealthLtd (SZSE:300550) Is Using Debt Safely

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Heren Health Co.,Ltd. (SZSE:300550) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Heren HealthLtd

What Is Heren HealthLtd's Net Debt?

As you can see below, at the end of September 2024, Heren HealthLtd had CN¥125.1m of debt, up from CN¥110.1m a year ago. Click the image for more detail. However, it does have CN¥482.4m in cash offsetting this, leading to net cash of CN¥357.3m.

How Healthy Is Heren HealthLtd's Balance Sheet?

The latest balance sheet data shows that Heren HealthLtd had liabilities of CN¥352.2m due within a year, and liabilities of CN¥824.1k falling due after that. Offsetting this, it had CN¥482.4m in cash and CN¥667.7m in receivables that were due within 12 months. So it actually has CN¥797.1m more liquid assets than total liabilities.

It's good to see that Heren HealthLtd has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Simply put, the fact that Heren HealthLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

Although Heren HealthLtd made a loss at the EBIT level, last year, it was also good to see that it generated CN¥19m in EBIT over the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Heren HealthLtd'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. While Heren HealthLtd has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last year, Heren HealthLtd 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

While it is always sensible to investigate a company's debt, in this case Heren HealthLtd has CN¥357.3m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥26m, being 137% of its EBIT. So is Heren HealthLtd's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 1 warning sign for Heren HealthLtd that you should be aware of before investing here.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.