We Think Oriental Pearl GroupLtd (SHSE:600637) Can Manage Its Debt With Ease

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. As with many other companies Oriental Pearl Group Co.,Ltd. (SHSE:600637) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. 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 Oriental Pearl GroupLtd

How Much Debt Does Oriental Pearl GroupLtd Carry?

The image below, which you can click on for greater detail, shows that at June 2024 Oriental Pearl GroupLtd had debt of CN¥2.78b, up from CN¥2.31b in one year. However, it does have CN¥17.0b in cash offsetting this, leading to net cash of CN¥14.2b.

A Look At Oriental Pearl GroupLtd's Liabilities

The latest balance sheet data shows that Oriental Pearl GroupLtd had liabilities of CN¥8.45b due within a year, and liabilities of CN¥1.66b falling due after that. Offsetting these obligations, it had cash of CN¥17.0b as well as receivables valued at CN¥2.90b due within 12 months. So it actually has CN¥9.80b more liquid assets than total liabilities.

This excess liquidity is a great indication that Oriental Pearl GroupLtd's balance sheet is almost as strong as Fort Knox. With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Succinctly put, Oriental Pearl GroupLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

Better yet, Oriental Pearl GroupLtd grew its EBIT by 291% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Oriental Pearl GroupLtd'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. While Oriental Pearl GroupLtd 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. In the last two years, Oriental Pearl GroupLtd's free cash flow amounted to 37% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Oriental Pearl GroupLtd has net cash of CN¥14.2b, as well as more liquid assets than liabilities. And we liked the look of last year's 291% year-on-year EBIT growth. So we don't think Oriental Pearl GroupLtd's use of debt is risky. 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. For example, we've discovered 2 warning signs for Oriental Pearl GroupLtd (1 is potentially serious!) that you should be aware of before investing here.

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.