These 4 Measures Indicate That Proya CosmeticsLtd (SHSE:603605) Is Using Debt Safely

Warren Buffett famously said, '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 Proya Cosmetics Co.,Ltd. (SHSE:603605) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Proya CosmeticsLtd

What Is Proya CosmeticsLtd's Debt?

The chart below, which you can click on for greater detail, shows that Proya CosmeticsLtd had CN¥961.8m in debt in March 2024; about the same as the year before. But it also has CN¥4.21b in cash to offset that, meaning it has CN¥3.24b net cash.

How Strong Is Proya CosmeticsLtd's Balance Sheet?

We can see from the most recent balance sheet that Proya CosmeticsLtd had liabilities of CN¥2.39b falling due within a year, and liabilities of CN¥804.6m due beyond that. Offsetting these obligations, it had cash of CN¥4.21b as well as receivables valued at CN¥360.6m due within 12 months. So it can boast CN¥1.38b more liquid assets than total liabilities.

This surplus suggests that Proya CosmeticsLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Proya CosmeticsLtd 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 Proya CosmeticsLtd has boosted its EBIT by 31%, 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 future earnings, more than anything, that will determine Proya CosmeticsLtd's ability to maintain a healthy balance sheet going forward. 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 company can only pay off debt with cold hard cash, not accounting profits. While Proya CosmeticsLtd 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. During the last three years, Proya CosmeticsLtd generated free cash flow amounting to a very robust 93% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Proya CosmeticsLtd has net cash of CN¥3.24b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥1.3b, being 93% of its EBIT. So we don't think Proya CosmeticsLtd's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 1 warning sign with Proya CosmeticsLtd , 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.