Here's Why Xiabuxiabu Catering Management (China) Holdings (HKG:520) Can Manage Its Debt Responsibly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Xiabuxiabu Catering Management (China) Holdings Co., Ltd. (HKG:520) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Xiabuxiabu Catering Management (China) Holdings

How Much Debt Does Xiabuxiabu Catering Management (China) Holdings Carry?

You can click the graphic below for the historical numbers, but it shows that Xiabuxiabu Catering Management (China) Holdings had CN¥50.7m of debt in June 2021, down from CN¥187.9m, one year before. But on the other hand it also has CN¥1.20b in cash, leading to a CN¥1.15b net cash position.

How Strong Is Xiabuxiabu Catering Management (China) Holdings' Balance Sheet?

The latest balance sheet data shows that Xiabuxiabu Catering Management (China) Holdings had liabilities of CN¥1.77b due within a year, and liabilities of CN¥1.23b falling due after that. Offsetting these obligations, it had cash of CN¥1.20b as well as receivables valued at CN¥60.8m due within 12 months. So its liabilities total CN¥1.74b more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Xiabuxiabu Catering Management (China) Holdings has a market capitalization of CN¥5.88b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Xiabuxiabu Catering Management (China) Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

Pleasingly, Xiabuxiabu Catering Management (China) Holdings is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 540% gain in the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Xiabuxiabu Catering Management (China) Holdings 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Xiabuxiabu Catering Management (China) Holdings 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. Happily for any shareholders, Xiabuxiabu Catering Management (China) Holdings actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

While Xiabuxiabu Catering Management (China) Holdings does have more liabilities than liquid assets, it also has net cash of CN¥1.15b. And it impressed us with free cash flow of CN¥1.0b, being 154% of its EBIT. So we don't think Xiabuxiabu Catering Management (China) Holdings's use of debt is risky. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Xiabuxiabu Catering Management (China) Holdings you should know about.

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.

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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