China Resources Medical Holdings (HKG:1515) Has A Pretty Healthy Balance Sheet

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. Importantly, China Resources Medical Holdings Company Limited (HKG:1515) does carry debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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 think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for China Resources Medical Holdings

What Is China Resources Medical Holdings's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2022 China Resources Medical Holdings had CN¥2.02b of debt, an increase on CN¥1.67b, over one year. However, it does have CN¥3.30b in cash offsetting this, leading to net cash of CN¥1.28b.

A Look At China Resources Medical Holdings' Liabilities

Zooming in on the latest balance sheet data, we can see that China Resources Medical Holdings had liabilities of CN¥2.89b due within 12 months and liabilities of CN¥1.21b due beyond that. Offsetting this, it had CN¥3.30b in cash and CN¥923.7m in receivables that were due within 12 months. So it can boast CN¥120.5m more liquid assets than total liabilities.

This state of affairs indicates that China Resources Medical Holdings' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the CN¥7.28b company is struggling for cash, we still think it's worth monitoring its balance sheet. Succinctly put, China Resources Medical Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact China Resources Medical Holdings's saving grace is its low debt levels, because its EBIT has tanked 23% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. 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 China Resources Medical 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. China Resources Medical 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, China Resources Medical Holdings actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While it is always sensible to investigate a company's debt, in this case China Resources Medical Holdings has CN¥1.28b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥374m, being 141% of its EBIT. So we don't have any problem with China Resources Medical Holdings's use of debt. 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 2 warning signs for China Resources Medical Holdings that you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.