Is Shandong Weigao Group Medical Polymer (HKG:1066) A Risky Investment?

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 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. We can see that Shandong Weigao Group Medical Polymer Company Limited (HKG:1066) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Shandong Weigao Group Medical Polymer

What Is Shandong Weigao Group Medical Polymer's Debt?

The image below, which you can click on for greater detail, shows that Shandong Weigao Group Medical Polymer had debt of CN¥4.06b at the end of December 2021, a reduction from CN¥4.30b over a year. But on the other hand it also has CN¥7.51b in cash, leading to a CN¥3.45b net cash position.

How Healthy Is Shandong Weigao Group Medical Polymer's Balance Sheet?

The latest balance sheet data shows that Shandong Weigao Group Medical Polymer had liabilities of CN¥5.11b due within a year, and liabilities of CN¥4.35b falling due after that. Offsetting these obligations, it had cash of CN¥7.51b as well as receivables valued at CN¥6.56b due within 12 months. So it can boast CN¥4.61b more liquid assets than total liabilities.

This surplus suggests that Shandong Weigao Group Medical Polymer has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Shandong Weigao Group Medical Polymer has more cash than debt is arguably a good indication that it can manage its debt safely.

Also positive, Shandong Weigao Group Medical Polymer grew its EBIT by 29% in the last year, and that should make it 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 Shandong Weigao Group Medical Polymer'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Shandong Weigao Group Medical Polymer 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. Looking at the most recent three years, Shandong Weigao Group Medical Polymer recorded free cash flow of 40% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing up

While it is always sensible to investigate a company's debt, in this case Shandong Weigao Group Medical Polymer has CN¥3.45b in net cash and a decent-looking balance sheet. And we liked the look of last year's 29% year-on-year EBIT growth. So we don't think Shandong Weigao Group Medical Polymer'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 Shandong Weigao Group Medical Polymer 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.