We Think R&G PharmaStudies (SZSE:301333) Can Stay On Top Of Its 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. As with many other companies R&G PharmaStudies Co., Ltd. (SZSE:301333) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for R&G PharmaStudies

What Is R&G PharmaStudies's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 R&G PharmaStudies had CN¥55.1m of debt, an increase on none, over one year. However, it does have CN¥1.74b in cash offsetting this, leading to net cash of CN¥1.68b.

How Strong Is R&G PharmaStudies' Balance Sheet?

According to the last reported balance sheet, R&G PharmaStudies had liabilities of CN¥444.7m due within 12 months, and liabilities of CN¥65.3m due beyond 12 months. On the other hand, it had cash of CN¥1.74b and CN¥282.8m worth of receivables due within a year. So it can boast CN¥1.51b more liquid assets than total liabilities.

This surplus strongly suggests that R&G PharmaStudies has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that R&G PharmaStudies has more cash than debt is arguably a good indication that it can manage its debt safely.

The modesty of its debt load may become crucial for R&G PharmaStudies if management cannot prevent a repeat of the 31% cut to EBIT over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if R&G PharmaStudies 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While R&G PharmaStudies has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, R&G PharmaStudies actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that R&G PharmaStudies has net cash of CN¥1.68b, as well as more liquid assets than liabilities. The cherry on top was that in converted 132% of that EBIT to free cash flow, bringing in CN¥152m. So is R&G PharmaStudies's debt a risk? It doesn't seem so to us. Over time, share prices tend to follow earnings per share, so if you're interested in R&G PharmaStudies, you may well want to click here to check an interactive graph of its earnings per share history.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.