Is Beijing Tongrentang (SHSE:600085) Using Too Much Debt?

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. Importantly, Beijing Tongrentang Co., Ltd (SHSE:600085) does carry debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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.

View our latest analysis for Beijing Tongrentang

What Is Beijing Tongrentang's Net Debt?

The image below, which you can click on for greater detail, shows that at March 2024 Beijing Tongrentang had debt of CN¥2.88b, up from CN¥1.99b in one year. However, its balance sheet shows it holds CN¥12.3b in cash, so it actually has CN¥9.47b net cash.

A Look At Beijing Tongrentang's Liabilities

We can see from the most recent balance sheet that Beijing Tongrentang had liabilities of CN¥6.47b falling due within a year, and liabilities of CN¥3.52b due beyond that. Offsetting these obligations, it had cash of CN¥12.3b as well as receivables valued at CN¥2.10b due within 12 months. So it can boast CN¥4.46b more liquid assets than total liabilities.

This short term liquidity is a sign that Beijing Tongrentang could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Beijing Tongrentang boasts net cash, so it's fair to say it does not have a heavy debt load!

Fortunately, Beijing Tongrentang grew its EBIT by 2.2% in the last year, making that debt load look even more manageable. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Beijing Tongrentang can strengthen its balance sheet over time. 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. Beijing Tongrentang 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. Over the most recent three years, Beijing Tongrentang recorded free cash flow worth 74% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While it is always sensible to investigate a company's debt, in this case Beijing Tongrentang has CN¥9.47b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 74% of that EBIT to free cash flow, bringing in CN¥99m. So we don't think Beijing Tongrentang's use of debt is risky. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Beijing Tongrentang 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com