Is Q Technology (Group) (HKG:1478) Using Too Much 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.' 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. As with many other companies Q Technology (Group) Company Limited (HKG:1478) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own 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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 Q Technology (Group)

What Is Q Technology (Group)'s Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2022 Q Technology (Group) had CN¥2.56b of debt, an increase on CN¥1.64b, over one year. However, its balance sheet shows it holds CN¥2.63b in cash, so it actually has CN¥62.2m net cash.

A Look At Q Technology (Group)'s Liabilities

Zooming in on the latest balance sheet data, we can see that Q Technology (Group) had liabilities of CN¥7.20b due within 12 months and liabilities of CN¥262.4m due beyond that. Offsetting these obligations, it had cash of CN¥2.63b as well as receivables valued at CN¥3.23b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥1.61b.

While this might seem like a lot, it is not so bad since Q Technology (Group) has a market capitalization of CN¥5.25b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, Q Technology (Group) also has more cash than debt, so we're pretty confident it can manage its debt safely.

In fact Q Technology (Group)'s saving grace is its low debt levels, because its EBIT has tanked 64% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Q Technology (Group) can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Q Technology (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. Over the last three years, Q Technology (Group) actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

Although Q Technology (Group)'s balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥62.2m. And it impressed us with free cash flow of CN¥1.6b, being 233% of its EBIT. So we are not troubled with Q Technology (Group)'s debt use. 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 instance, we've identified 1 warning sign for Q Technology (Group) that you should be aware of.

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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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.