These 4 Measures Indicate That Greentown Service Group (HKG:2869) Is Using Debt Safely

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 note that Greentown Service Group Co. Ltd. (HKG:2869) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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 think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Greentown Service Group

What Is Greentown Service Group's Debt?

You can click the graphic below for the historical numbers, but it shows that Greentown Service Group had CN¥167.8m of debt in December 2020, down from CN¥513.9m, one year before. However, its balance sheet shows it holds CN¥6.30b in cash, so it actually has CN¥6.13b 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¥4.69b due within 12 months and liabilities of CN¥1.28b due beyond that. On the other hand, it had cash of CN¥6.30b and CN¥1.68b worth of receivables due within a year. So it can boast CN¥2.01b more liquid assets than total liabilities.

This short term liquidity is a sign that Greentown Service Group could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Greentown Service 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 Greentown Service Group has boosted its EBIT by 38%, thus reducing the spectre of future debt repayments. 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 Greentown Service Group's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Greentown Service 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. Happily for any shareholders, Greentown Service Group actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Greentown Service Group has net cash of CN¥6.13b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥968m, being 109% of its EBIT. So is Greentown Service Group's debt a risk? It doesn't seem so to us. 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. Case in point: We've spotted 2 warning signs for Greentown Service Group you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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