We Think China Boqi Environmental (Holding) (HKG:2377) Can Stay On Top Of Its Debt

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.' 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. As with many other companies China Boqi Environmental (Holding) Co., Ltd. (HKG:2377) makes use of debt. But should shareholders be worried about its use of debt?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for China Boqi Environmental (Holding)

How Much Debt Does China Boqi Environmental (Holding) Carry?

As you can see below, at the end of June 2024, China Boqi Environmental (Holding) had CN¥303.7m of debt, up from CN¥135.6m a year ago. Click the image for more detail. But on the other hand it also has CN¥582.7m in cash, leading to a CN¥279.0m net cash position.

How Healthy Is China Boqi Environmental (Holding)'s Balance Sheet?

We can see from the most recent balance sheet that China Boqi Environmental (Holding) had liabilities of CN¥1.69b falling due within a year, and liabilities of CN¥219.7m due beyond that. Offsetting this, it had CN¥582.7m in cash and CN¥1.69b in receivables that were due within 12 months. So it actually has CN¥359.5m more liquid assets than total liabilities.

This surplus liquidity suggests that China Boqi Environmental (Holding)'s balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that China Boqi Environmental (Holding) has more cash than debt is arguably a good indication that it can manage its debt safely.

But the other side of the story is that China Boqi Environmental (Holding) saw its EBIT decline by 7.2% over the last year. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since China Boqi Environmental (Holding) will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While China Boqi Environmental (Holding) 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, China Boqi Environmental (Holding) recorded negative free cash flow, in total. 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 China Boqi Environmental (Holding) has CN¥279.0m in net cash and a decent-looking balance sheet. So we don't have any problem with China Boqi Environmental (Holding)'s use of debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - China Boqi Environmental (Holding) has 1 warning sign we think 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.