Hengan International Group (HKG:1044) Seems To Use Debt Rather Sparingly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Hengan International Group Company Limited (HKG:1044) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Hengan International Group

What Is Hengan International Group's Debt?

You can click the graphic below for the historical numbers, but it shows that Hengan International Group had CN¥14.2b of debt in December 2023, down from CN¥17.0b, one year before. But it also has CN¥18.2b in cash to offset that, meaning it has CN¥3.98b net cash.

A Look At Hengan International Group's Liabilities

We can see from the most recent balance sheet that Hengan International Group had liabilities of CN¥19.1b falling due within a year, and liabilities of CN¥525.8m due beyond that. Offsetting this, it had CN¥18.2b in cash and CN¥3.53b in receivables that were due within 12 months. So it can boast CN¥2.16b more liquid assets than total liabilities.

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

The good news is that Hengan International Group has increased its EBIT by 5.9% over twelve months, which should ease any concerns about debt repayment. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Hengan International Group can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Hengan International Group 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, Hengan International Group recorded free cash flow worth a fulsome 83% 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 we empathize with investors who find debt concerning, you should keep in mind that Hengan International Group has net cash of CN¥3.98b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥2.4b, being 83% of its EBIT. So we don't think Hengan International Group'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 Hengan International Group .

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.