China Merchants Property Operation & Service (SZSE:001914) Seems To Use Debt Quite Sensibly

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 China Merchants Property Operation & Service Co., Ltd. (SZSE:001914) makes use of debt. But is this debt a concern to shareholders?

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. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for China Merchants Property Operation & Service

What Is China Merchants Property Operation & Service's Debt?

The image below, which you can click on for greater detail, shows that China Merchants Property Operation & Service had debt of CN¥1.56b at the end of September 2024, a reduction from CN¥2.15b over a year. However, its balance sheet shows it holds CN¥2.47b in cash, so it actually has CN¥905.4m net cash.

How Healthy Is China Merchants Property Operation & Service's Balance Sheet?

According to the last reported balance sheet, China Merchants Property Operation & Service had liabilities of CN¥6.45b due within 12 months, and liabilities of CN¥2.24b due beyond 12 months. Offsetting these obligations, it had cash of CN¥2.47b as well as receivables valued at CN¥5.28b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥942.7m.

Of course, China Merchants Property Operation & Service has a market capitalization of CN¥10.8b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, China Merchants Property Operation & Service boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, China Merchants Property Operation & Service saw its EBIT drop by 5.8% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if China Merchants Property Operation & Service 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. China Merchants Property Operation & Service 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. Over the last three years, China Merchants Property Operation & Service recorded free cash flow worth a fulsome 96% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that China Merchants Property Operation & Service has CN¥905.4m in net cash. The cherry on top was that in converted 96% of that EBIT to free cash flow, bringing in CN¥909m. So we don't think China Merchants Property Operation & Service'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. For instance, we've identified 1 warning sign for China Merchants Property Operation & Service that you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.