Cathay Biotech (SHSE:688065) Seems To Use Debt Quite Sensibly

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.' 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 note that Cathay Biotech Inc. (SHSE:688065) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. If things get really bad, the lenders can take control of the business. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Cathay Biotech

How Much Debt Does Cathay Biotech Carry?

You can click the graphic below for the historical numbers, but it shows that Cathay Biotech had CN¥1.31b of debt in June 2024, down from CN¥1.46b, one year before. However, its balance sheet shows it holds CN¥4.64b in cash, so it actually has CN¥3.32b net cash.

How Strong Is Cathay Biotech's Balance Sheet?

The latest balance sheet data shows that Cathay Biotech had liabilities of CN¥2.45b due within a year, and liabilities of CN¥977.7m falling due after that. On the other hand, it had cash of CN¥4.64b and CN¥504.3m worth of receivables due within a year. So it actually has CN¥1.71b more liquid assets than total liabilities.

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

On the other hand, Cathay Biotech saw its EBIT drop by 8.9% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. When analysing debt levels, the balance sheet is the obvious place to start. But it is Cathay Biotech'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Cathay Biotech 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. During the last three years, Cathay Biotech burned a lot of cash. 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 Cathay Biotech has net cash of CN¥3.32b, as well as more liquid assets than liabilities. So we are not troubled with Cathay Biotech's debt use. 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. For example Cathay Biotech has 2 warning signs (and 1 which shouldn't be ignored) we think you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.