Is Hebei Changshan Biochemical Pharmaceutical (SZSE:300255) Using Too Much Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. Importantly, Hebei Changshan Biochemical Pharmaceutical Co., Ltd. (SZSE:300255) does carry 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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 Hebei Changshan Biochemical Pharmaceutical

What Is Hebei Changshan Biochemical Pharmaceutical's Net Debt?

The image below, which you can click on for greater detail, shows that Hebei Changshan Biochemical Pharmaceutical had debt of CN¥2.03b at the end of March 2024, a reduction from CN¥2.52b over a year. On the flip side, it has CN¥322.0m in cash leading to net debt of about CN¥1.71b.

How Strong Is Hebei Changshan Biochemical Pharmaceutical's Balance Sheet?

The latest balance sheet data shows that Hebei Changshan Biochemical Pharmaceutical had liabilities of CN¥1.94b due within a year, and liabilities of CN¥993.8m falling due after that. Offsetting this, it had CN¥322.0m in cash and CN¥312.7m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥2.30b.

Hebei Changshan Biochemical Pharmaceutical has a market capitalization of CN¥9.56b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Hebei Changshan Biochemical Pharmaceutical will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Hebei Changshan Biochemical Pharmaceutical made a loss at the EBIT level, and saw its revenue drop to CN¥1.2b, which is a fall of 47%. To be frank that doesn't bode well.

Caveat Emptor

While Hebei Changshan Biochemical Pharmaceutical's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at CN¥540m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. For example, we would not want to see a repeat of last year's loss of CN¥1.3b. So to be blunt we do think it 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. To that end, you should learn about the 3 warning signs we've spotted with Hebei Changshan Biochemical Pharmaceutical (including 2 which are concerning) .

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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