Here's Why Sichuan Huiyu Pharmaceutical (SHSE:688553) Can Manage Its Debt Responsibly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Sichuan Huiyu Pharmaceutical Co., Ltd. (SHSE:688553) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Sichuan Huiyu Pharmaceutical

What Is Sichuan Huiyu Pharmaceutical's Debt?

As you can see below, at the end of June 2024, Sichuan Huiyu Pharmaceutical had CN¥550.3m of debt, up from CN¥201.6m a year ago. Click the image for more detail. But it also has CN¥2.50b in cash to offset that, meaning it has CN¥1.94b net cash.

A Look At Sichuan Huiyu Pharmaceutical's Liabilities

The latest balance sheet data shows that Sichuan Huiyu Pharmaceutical had liabilities of CN¥966.5m due within a year, and liabilities of CN¥27.8m falling due after that. On the other hand, it had cash of CN¥2.50b and CN¥147.2m worth of receivables due within a year. So it can boast CN¥1.65b more liquid assets than total liabilities.

This surplus liquidity suggests that Sichuan Huiyu Pharmaceutical's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. Having regard to this fact, we think its balance sheet is as strong as an ox. Succinctly put, Sichuan Huiyu Pharmaceutical boasts net cash, so it's fair to say it does not have a heavy debt load!

But the other side of the story is that Sichuan Huiyu Pharmaceutical saw its EBIT decline by 5.0% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Sichuan Huiyu Pharmaceutical will need earnings to service that debt. 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Sichuan Huiyu Pharmaceutical 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 last three years, Sichuan Huiyu Pharmaceutical saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing Up

While it is always sensible to investigate a company's debt, in this case Sichuan Huiyu Pharmaceutical has CN¥1.94b in net cash and a decent-looking balance sheet. So we don't have any problem with Sichuan Huiyu Pharmaceutical's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. 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 3 warning signs for Sichuan Huiyu Pharmaceutical (of which 1 is potentially serious!) 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.