Guangdong Taienkang Pharmaceutical (SZSE:301263) Seems To Use Debt Quite Sensibly

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Guangdong Taienkang Pharmaceutical Co., Ltd. (SZSE:301263) does carry debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Guangdong Taienkang Pharmaceutical

What Is Guangdong Taienkang Pharmaceutical's Debt?

As you can see below, at the end of September 2023, Guangdong Taienkang Pharmaceutical had CN¥64.1m of debt, up from CN¥31.0m a year ago. Click the image for more detail. But it also has CN¥769.3m in cash to offset that, meaning it has CN¥705.2m net cash.

A Look At Guangdong Taienkang Pharmaceutical's Liabilities

We can see from the most recent balance sheet that Guangdong Taienkang Pharmaceutical had liabilities of CN¥191.7m falling due within a year, and liabilities of CN¥67.5m due beyond that. On the other hand, it had cash of CN¥769.3m and CN¥371.9m worth of receivables due within a year. So it actually has CN¥882.0m more liquid assets than total liabilities.

This short term liquidity is a sign that Guangdong Taienkang Pharmaceutical could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Guangdong Taienkang Pharmaceutical has more cash than debt is arguably a good indication that it can manage its debt safely.

And we also note warmly that Guangdong Taienkang Pharmaceutical grew its EBIT by 12% last year, making its debt load easier to handle. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Guangdong Taienkang Pharmaceutical's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Guangdong Taienkang 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. Looking at the most recent three years, Guangdong Taienkang Pharmaceutical recorded free cash flow of 25% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Guangdong Taienkang Pharmaceutical has net cash of CN¥705.2m, as well as more liquid assets than liabilities. And it also grew its EBIT by 12% over the last year. So is Guangdong Taienkang Pharmaceutical's debt a risk? It doesn't seem so to us. 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. Be aware that Guangdong Taienkang Pharmaceutical is showing 1 warning sign in our investment analysis , 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.