Meilleure Health International Industry Group (HKG:2327) Seems To Use Debt Rather Sparingly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Meilleure Health International Industry Group Limited (HKG:2327) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. 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 Meilleure Health International Industry Group

What Is Meilleure Health International Industry Group's Debt?

As you can see below, Meilleure Health International Industry Group had HK$158.3m of debt at December 2020, down from HK$317.7m a year prior. However, it does have HK$305.2m in cash offsetting this, leading to net cash of HK$146.9m.

A Look At Meilleure Health International Industry Group's Liabilities

We can see from the most recent balance sheet that Meilleure Health International Industry Group had liabilities of HK$108.9m falling due within a year, and liabilities of HK$190.7m due beyond that. On the other hand, it had cash of HK$305.2m and HK$367.3m worth of receivables due within a year. So it actually has HK$372.8m more liquid assets than total liabilities.

This excess liquidity suggests that Meilleure Health International Industry Group is taking a careful approach to debt. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Meilleure Health International Industry Group has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Meilleure Health International Industry Group has boosted its EBIT by 89%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Meilleure Health International Industry Group'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 Meilleure Health International Industry Group 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. During the last three years, Meilleure Health International Industry Group produced sturdy free cash flow equating to 76% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

While it is always sensible to investigate a company's debt, in this case Meilleure Health International Industry Group has HK$146.9m in net cash and a decent-looking balance sheet. And we liked the look of last year's 89% year-on-year EBIT growth. So is Meilleure Health International Industry Group's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 3 warning signs for Meilleure Health International Industry Group (1 is a bit unpleasant) you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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