Hefei Department Store GroupLtd (SZSE:000417) Has A Pretty Healthy Balance Sheet

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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. Importantly, Hefei Department Store Group Co.,Ltd (SZSE:000417) does carry debt. But the real question is whether this debt is making the company risky.

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. If things get really bad, the lenders can take control of the business. 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, 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Hefei Department Store GroupLtd

What Is Hefei Department Store GroupLtd's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Hefei Department Store GroupLtd had CN¥894.5m of debt in June 2024, down from CN¥1.37b, one year before. However, it does have CN¥1.92b in cash offsetting this, leading to net cash of CN¥1.02b.

A Look At Hefei Department Store GroupLtd's Liabilities

The latest balance sheet data shows that Hefei Department Store GroupLtd had liabilities of CN¥5.22b due within a year, and liabilities of CN¥1.48b falling due after that. Offsetting this, it had CN¥1.92b in cash and CN¥325.9m in receivables that were due within 12 months. So its liabilities total CN¥4.45b more than the combination of its cash and short-term receivables.

When you consider that this deficiency exceeds the company's CN¥3.62b market capitalization, you might well be inclined to review the balance sheet intently. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. Given that Hefei Department Store GroupLtd has more cash than debt, we're pretty confident it can handle its debt, despite the fact that it has a lot of liabilities in total.

Fortunately, Hefei Department Store GroupLtd grew its EBIT by 4.7% in the last year, making that debt load look even more manageable. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Hefei Department Store GroupLtd can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Hefei Department Store GroupLtd 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. Over the last three years, Hefei Department Store GroupLtd actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

Although Hefei Department Store GroupLtd's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥1.02b. And it impressed us with free cash flow of CN¥99m, being 126% of its EBIT. So we are not troubled with Hefei Department Store GroupLtd's debt use. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 3 warning signs for Hefei Department Store GroupLtd you should be aware of.

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.