Tongcheng Travel Holdings (HKG:780) Seems To Use Debt Rather Sparingly

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 Tongcheng Travel Holdings Limited (HKG:780) makes use of debt. But is this debt a concern to shareholders?

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

How Much Debt Does Tongcheng Travel Holdings Carry?

As you can see below, at the end of March 2024, Tongcheng Travel Holdings had CN¥3.38b of debt, up from CN¥1.97b a year ago. Click the image for more detail. But it also has CN¥10.0b in cash to offset that, meaning it has CN¥6.64b net cash.

A Look At Tongcheng Travel Holdings' Liabilities

Zooming in on the latest balance sheet data, we can see that Tongcheng Travel Holdings had liabilities of CN¥12.6b due within 12 months and liabilities of CN¥2.11b due beyond that. Offsetting this, it had CN¥10.0b in cash and CN¥1.48b in receivables that were due within 12 months. So its liabilities total CN¥3.22b more than the combination of its cash and short-term receivables.

Since publicly traded Tongcheng Travel Holdings shares are worth a total of CN¥37.1b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Tongcheng Travel Holdings also has more cash than debt, so we're pretty confident it can manage its debt safely.

Even more impressive was the fact that Tongcheng Travel Holdings grew its EBIT by 476% over twelve months. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Tongcheng Travel 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. Tongcheng Travel 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. Over the last three years, Tongcheng Travel Holdings actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

We could understand if investors are concerned about Tongcheng Travel Holdings's liabilities, but we can be reassured by the fact it has has net cash of CN¥6.64b. The cherry on top was that in converted 165% of that EBIT to free cash flow, bringing in CN¥2.8b. So we don't think Tongcheng Travel Holdings's use of debt is risky. 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 Tongcheng Travel Holdings that you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.