Geely Automobile Holdings (HKG:175) 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.' 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 can see that Geely Automobile Holdings Limited (HKG:175) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Geely Automobile Holdings

How Much Debt Does Geely Automobile Holdings Carry?

You can click the graphic below for the historical numbers, but it shows that as of December 2022 Geely Automobile Holdings had CN¥10.8b of debt, an increase on CN¥3.81b, over one year. However, its balance sheet shows it holds CN¥33.3b in cash, so it actually has CN¥22.5b net cash.

How Strong Is Geely Automobile Holdings' Balance Sheet?

The latest balance sheet data shows that Geely Automobile Holdings had liabilities of CN¥69.0b due within a year, and liabilities of CN¥12.7b falling due after that. On the other hand, it had cash of CN¥33.3b and CN¥34.5b worth of receivables due within a year. So its liabilities total CN¥13.8b more than the combination of its cash and short-term receivables.

Of course, Geely Automobile Holdings has a titanic market capitalization of CN¥85.9b, 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, Geely Automobile Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Geely Automobile Holdings's load is not too heavy, because its EBIT was down 52% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Geely Automobile Holdings's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Geely Automobile Holdings 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. Happily for any shareholders, Geely Automobile Holdings actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

Although Geely Automobile Holdings'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¥22.5b. And it impressed us with free cash flow of CN¥5.7b, being 145% of its EBIT. So we are not troubled with Geely Automobile Holdings's debt use. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 1 warning sign for Geely Automobile Holdings 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.