We Think Launch Tech (HKG:2488) Can Stay On Top Of Its Debt

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 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. Importantly, Launch Tech Company Limited (HKG:2488) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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.

Check out our latest analysis for Launch Tech

What Is Launch Tech's Debt?

The chart below, which you can click on for greater detail, shows that Launch Tech had CN¥351.6m in debt in June 2024; about the same as the year before. But on the other hand it also has CN¥548.8m in cash, leading to a CN¥197.2m net cash position.

A Look At Launch Tech's Liabilities

According to the last reported balance sheet, Launch Tech had liabilities of CN¥775.2m due within 12 months, and liabilities of CN¥13.2m due beyond 12 months. Offsetting these obligations, it had cash of CN¥548.8m as well as receivables valued at CN¥306.8m due within 12 months. So it actually has CN¥67.2m more liquid assets than total liabilities.

This short term liquidity is a sign that Launch Tech could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Launch Tech has more cash than debt is arguably a good indication that it can manage its debt safely.

Better yet, Launch Tech grew its EBIT by 197% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. 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 Launch Tech'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Launch Tech 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, Launch Tech reported free cash flow worth 3.3% of its EBIT, which is really quite low. That limp level of cash conversion undermines its ability to manage and pay down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case Launch Tech has CN¥197.2m in net cash and a decent-looking balance sheet. And we liked the look of last year's 197% year-on-year EBIT growth. So we don't think Launch Tech'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 2 warning signs for Launch Tech that 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.