We Think Chengdu Kanghua Biological Products (SZSE:300841) Can Stay On Top Of Its Debt

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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 Chengdu Kanghua Biological Products Co., Ltd. (SZSE:300841) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Chengdu Kanghua Biological Products

What Is Chengdu Kanghua Biological Products's Debt?

The image below, which you can click on for greater detail, shows that at March 2024 Chengdu Kanghua Biological Products had debt of CN¥210.2m, up from CN¥138.1m in one year. But on the other hand it also has CN¥1.06b in cash, leading to a CN¥847.6m net cash position.

How Strong Is Chengdu Kanghua Biological Products' Balance Sheet?

We can see from the most recent balance sheet that Chengdu Kanghua Biological Products had liabilities of CN¥588.5m falling due within a year, and liabilities of CN¥12.1m due beyond that. On the other hand, it had cash of CN¥1.06b and CN¥1.38b worth of receivables due within a year. So it can boast CN¥1.84b more liquid assets than total liabilities.

This excess liquidity suggests that Chengdu Kanghua Biological Products is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, Chengdu Kanghua Biological Products boasts net cash, so it's fair to say it does not have a heavy debt load!

Also good is that Chengdu Kanghua Biological Products grew its EBIT at 16% over the last year, further increasing its ability to manage debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Chengdu Kanghua Biological Products 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. Chengdu Kanghua Biological Products 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. In the last three years, Chengdu Kanghua Biological Products created free cash flow amounting to 8.7% of its EBIT, an uninspiring performance. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Chengdu Kanghua Biological Products has net cash of CN¥847.6m, as well as more liquid assets than liabilities. And we liked the look of last year's 16% year-on-year EBIT growth. So we don't think Chengdu Kanghua Biological Products'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. Be aware that Chengdu Kanghua Biological Products is showing 1 warning sign in our investment analysis , you should know about...

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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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