Gushengtang Holdings (HKG:2273) Has A Rock Solid Balance Sheet

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 Gushengtang Holdings Limited (HKG:2273) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. 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.

Check out our latest analysis for Gushengtang Holdings

What Is Gushengtang Holdings's Debt?

As you can see below, Gushengtang Holdings had CN¥16.4m of debt at December 2023, down from CN¥71.2m a year prior. However, it does have CN¥1.34b in cash offsetting this, leading to net cash of CN¥1.32b.

A Look At Gushengtang Holdings' Liabilities

According to the last reported balance sheet, Gushengtang Holdings had liabilities of CN¥708.2m due within 12 months, and liabilities of CN¥365.0m due beyond 12 months. Offsetting these obligations, it had cash of CN¥1.34b as well as receivables valued at CN¥179.9m due within 12 months. So it actually has CN¥443.0m more liquid assets than total liabilities.

This short term liquidity is a sign that Gushengtang Holdings could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Gushengtang Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Gushengtang Holdings has boosted its EBIT by 40%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Gushengtang 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Gushengtang 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 two years, Gushengtang Holdings actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

While it is always sensible to investigate a company's debt, in this case Gushengtang Holdings has CN¥1.32b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 113% of that EBIT to free cash flow, bringing in CN¥248m. So we don't think Gushengtang Holdings's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that Gushengtang Holdings is showing 1 warning sign in our investment analysis , you should know about...

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.