Is Want Want China Holdings (HKG:151) A Risky Investment?

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. As with many other companies Want Want China Holdings Limited (HKG:151) makes use of debt. But should shareholders be worried about its use of debt?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Want Want China Holdings

What Is Want Want China Holdings's Debt?

As you can see below, Want Want China Holdings had CN¥8.24b of debt at September 2021, down from CN¥10.2b a year prior. However, its balance sheet shows it holds CN¥13.8b in cash, so it actually has CN¥5.56b net cash.

A Look At Want Want China Holdings' Liabilities

According to the last reported balance sheet, Want Want China Holdings had liabilities of CN¥9.14b due within 12 months, and liabilities of CN¥5.33b due beyond 12 months. Offsetting this, it had CN¥13.8b in cash and CN¥987.8m in receivables that were due within 12 months. So it actually has CN¥312.2m more liquid assets than total liabilities.

Having regard to Want Want China Holdings' size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the CN¥66.0b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that Want Want China Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Fortunately, Want Want China Holdings grew its EBIT by 6.0% in the last year, making that debt load look even more manageable. 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 Want Want China Holdings'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Want Want China 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. Over the last three years, Want Want China Holdings recorded free cash flow worth a fulsome 95% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing up

While it is always sensible to investigate a company's debt, in this case Want Want China Holdings has CN¥5.56b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 95% of that EBIT to free cash flow, bringing in CN¥5.1b. So we don't think Want Want China Holdings's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 1 warning sign we've spotted with Want Want China Holdings .

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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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.