Xtep International Holdings (HKG:1368) Seems To Use Debt Quite Sensibly

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Xtep International Holdings Limited (HKG:1368) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Xtep International Holdings

What Is Xtep International Holdings's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Xtep International Holdings had CN¥1.95b of debt in June 2021, down from CN¥2.36b, one year before. But on the other hand it also has CN¥3.76b in cash, leading to a CN¥1.80b net cash position.

How Strong Is Xtep International Holdings' Balance Sheet?

The latest balance sheet data shows that Xtep International Holdings had liabilities of CN¥3.30b due within a year, and liabilities of CN¥1.68b falling due after that. On the other hand, it had cash of CN¥3.76b and CN¥2.77b worth of receivables due within a year. So it actually has CN¥1.55b more liquid assets than total liabilities.

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

Also good is that Xtep International Holdings grew its EBIT at 16% over the last year, further increasing its ability to manage debt. 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 Xtep International Holdings'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. While Xtep International Holdings 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. In the last three years, Xtep International Holdings's free cash flow amounted to 42% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Xtep International Holdings has net cash of CN¥1.80b, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 16% over the last year. So is Xtep International Holdings'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. Case in point: We've spotted 2 warning signs for Xtep International Holdings you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.
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