HengbaoLtd (SZSE:002104) 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.' 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 Hengbao Co.,Ltd. (SZSE:002104) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for HengbaoLtd

How Much Debt Does HengbaoLtd Carry?

As you can see below, at the end of March 2024, HengbaoLtd had CN¥111.5m of debt, up from CN¥57.4m a year ago. Click the image for more detail. But it also has CN¥1.32b in cash to offset that, meaning it has CN¥1.20b net cash.

How Strong Is HengbaoLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that HengbaoLtd had liabilities of CN¥267.2m due within 12 months and liabilities of CN¥59.4m due beyond that. Offsetting these obligations, it had cash of CN¥1.32b as well as receivables valued at CN¥327.2m due within 12 months. So it can boast CN¥1.32b more liquid assets than total liabilities.

This luscious liquidity implies that HengbaoLtd's balance sheet is sturdy like a giant sequoia tree. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that HengbaoLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

And we also note warmly that HengbaoLtd grew its EBIT by 11% last year, making its debt load easier to handle. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since HengbaoLtd will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. HengbaoLtd 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. Considering the last three years, HengbaoLtd actually recorded a cash outflow, overall. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Summing Up

While it is always sensible to investigate a company's debt, in this case HengbaoLtd has CN¥1.20b in net cash and a decent-looking balance sheet. On top of that, it increased its EBIT by 11% in the last twelve months. So we don't think HengbaoLtd'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 HengbaoLtd 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.