Does Greentown Service Group (HKG:2869) Have A Healthy Balance Sheet?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Greentown Service Group Co. Ltd. (HKG:2869) does use debt in its business. But the more important question is: how much risk is that debt creating?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. 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.

See our latest analysis for Greentown Service Group

What Is Greentown Service Group's Debt?

The image below, which you can click on for greater detail, shows that at June 2020 Greentown Service Group had debt of CN¥512.7m, up from CN¥300.4m in one year. But it also has CN¥6.46b in cash to offset that, meaning it has CN¥5.95b net cash.

How Healthy Is Greentown Service Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Greentown Service Group had liabilities of CN¥5.05b due within 12 months and liabilities of CN¥1.17b due beyond that. Offsetting these obligations, it had cash of CN¥6.46b as well as receivables valued at CN¥2.18b due within 12 months. So it actually has CN¥2.42b more liquid assets than total liabilities.

This surplus suggests that Greentown Service Group has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Greentown Service Group boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Greentown Service Group has boosted its EBIT by 39%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Greentown Service 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Greentown Service Group 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. During the last three years, Greentown Service Group generated free cash flow amounting to a very robust 84% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing up

While it is always sensible to investigate a company's debt, in this case Greentown Service Group has CN¥5.95b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥874m, being 84% of its EBIT. So is Greentown Service Group's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Consider risks, for instance. Every company has them, and we've spotted 1 warning sign for Greentown Service Group you should know about.

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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