These 4 Measures Indicate That Jiangsu Hoperun Software (SZSE:300339) Is Using Debt Extensively

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We note that Jiangsu Hoperun Software Co., Ltd. (SZSE:300339) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is Jiangsu Hoperun Software's Net Debt?

As you can see below, at the end of September 2024, Jiangsu Hoperun Software had CN¥944.6m of debt, up from CN¥772.3m a year ago. Click the image for more detail. On the flip side, it has CN¥645.0m in cash leading to net debt of about CN¥299.6m.

How Healthy Is Jiangsu Hoperun Software's Balance Sheet?

According to the last reported balance sheet, Jiangsu Hoperun Software had liabilities of CN¥1.72b due within 12 months, and liabilities of CN¥425.8m due beyond 12 months. On the other hand, it had cash of CN¥645.0m and CN¥2.22b worth of receivables due within a year. So it actually has CN¥722.3m more liquid assets than total liabilities.

Having regard to Jiangsu Hoperun Software's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the CN¥40.5b company is struggling for cash, we still think it's worth monitoring its balance sheet. But either way, Jiangsu Hoperun Software has virtually no net debt, so it's fair to say it does not have a heavy debt load!

Check out our latest analysis for Jiangsu Hoperun Software

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Jiangsu Hoperun Software has a debt to EBITDA ratio of 3.3 and its EBIT covered its interest expense 3.6 times. Taken together this implies that, while we wouldn't want to see debt levels rise, we think it can handle its current leverage. However, the silver lining was that Jiangsu Hoperun Software achieved a positive EBIT of CN¥110m in the last twelve months, an improvement on the prior year's loss. 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 Jiangsu Hoperun Software 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 company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Over the last year, Jiangsu Hoperun Software saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

Jiangsu Hoperun Software's conversion of EBIT to free cash flow was a real negative on this analysis, although the other factors we considered cast it in a significantly better light. But on the bright side, its ability to to handle its total liabilities isn't too shabby at all. When we consider all the factors discussed, it seems to us that Jiangsu Hoperun Software is taking some risks with its use of debt. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for Jiangsu Hoperun Software that you should be aware of.

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.