Is Hunan Gold (SZSE:002155) 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. Importantly, Hunan Gold Corporation Limited (SZSE:002155) does carry debt. 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. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.

See our latest analysis for Hunan Gold

What Is Hunan Gold's Debt?

You can click the graphic below for the historical numbers, but it shows that Hunan Gold had CN¥84.0m of debt in December 2023, down from CN¥318.5m, one year before. But it also has CN¥838.6m in cash to offset that, meaning it has CN¥754.6m net cash.

How Strong Is Hunan Gold's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Hunan Gold had liabilities of CN¥1.09b due within 12 months and liabilities of CN¥201.9m due beyond that. On the other hand, it had cash of CN¥838.6m and CN¥338.8m worth of receivables due within a year. So its liabilities total CN¥116.9m more than the combination of its cash and short-term receivables.

This state of affairs indicates that Hunan Gold's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the CN¥21.5b company is struggling for cash, we still think it's worth monitoring its balance sheet. Despite its noteworthy liabilities, Hunan Gold boasts net cash, so it's fair to say it does not have a heavy debt load!

And we also note warmly that Hunan Gold grew its EBIT by 17% last year, making its debt load easier to handle. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Hunan Gold's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Hunan Gold 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, Hunan Gold produced sturdy free cash flow equating to 78% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

We could understand if investors are concerned about Hunan Gold's liabilities, but we can be reassured by the fact it has has net cash of CN¥754.6m. The cherry on top was that in converted 78% of that EBIT to free cash flow, bringing in CN¥549m. So we don't think Hunan Gold'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. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Hunan Gold you should know about.

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.

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