Hunan Er-Kang Pharmaceutical (SZSE:300267) Has Debt But No Earnings; Should You Worry?

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. As with many other companies Hunan Er-Kang Pharmaceutical Co., Ltd (SZSE:300267) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Hunan Er-Kang Pharmaceutical

What Is Hunan Er-Kang Pharmaceutical's Debt?

As you can see below, at the end of June 2024, Hunan Er-Kang Pharmaceutical had CN¥340.2m of debt, up from CN¥149.0m a year ago. Click the image for more detail. However, it does have CN¥738.9m in cash offsetting this, leading to net cash of CN¥398.7m.

How Strong Is Hunan Er-Kang Pharmaceutical's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Hunan Er-Kang Pharmaceutical had liabilities of CN¥585.8m due within 12 months and liabilities of CN¥64.4m due beyond that. Offsetting this, it had CN¥738.9m in cash and CN¥183.4m in receivables that were due within 12 months. So it actually has CN¥272.1m more liquid assets than total liabilities.

This short term liquidity is a sign that Hunan Er-Kang Pharmaceutical could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Hunan Er-Kang Pharmaceutical boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But it is Hunan Er-Kang Pharmaceutical's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Hunan Er-Kang Pharmaceutical had a loss before interest and tax, and actually shrunk its revenue by 34%, to CN¥1.4b. That makes us nervous, to say the least.

So How Risky Is Hunan Er-Kang Pharmaceutical?

Statistically speaking companies that lose money are riskier than those that make money. And the fact is that over the last twelve months Hunan Er-Kang Pharmaceutical lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through CN¥12m of cash and made a loss of CN¥241m. But the saving grace is the CN¥398.7m on the balance sheet. That kitty means the company can keep spending for growth for at least two years, at current rates. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. 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. To that end, you should learn about the 2 warning signs we've spotted with Hunan Er-Kang Pharmaceutical (including 1 which is a bit unpleasant) .

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.