Is Wanguo Gold Group (HKG:3939) Using Too Much Debt?

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. We can see that Wanguo Gold Group Limited (HKG:3939) does use debt in its business. But should shareholders be worried about its use of debt?

We've discovered 3 warning signs about Wanguo Gold Group. View them for free.

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. 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. 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. When we think about a company's use of debt, we first look at cash and debt together.

What Is Wanguo Gold Group's Debt?

The image below, which you can click on for greater detail, shows that at December 2024 Wanguo Gold Group had debt of CN¥260.7m, up from CN¥201.9m in one year. But on the other hand it also has CN¥1.85b in cash, leading to a CN¥1.59b net cash position.

How Healthy Is Wanguo Gold Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Wanguo Gold Group had liabilities of CN¥493.5m due within 12 months and liabilities of CN¥188.4m due beyond that. Offsetting these obligations, it had cash of CN¥1.85b as well as receivables valued at CN¥262.8m due within 12 months. So it can boast CN¥1.43b more liquid assets than total liabilities.

This short term liquidity is a sign that Wanguo Gold Group could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Wanguo Gold Group has more cash than debt is arguably a good indication that it can manage its debt safely.

See our latest analysis for Wanguo Gold Group

In addition to that, we're happy to report that Wanguo Gold Group has boosted its EBIT by 85%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Wanguo Gold Group'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Wanguo Gold Group 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 most recent three years, Wanguo Gold Group recorded free cash flow worth 56% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Wanguo Gold Group has net cash of CN¥1.59b, as well as more liquid assets than liabilities. And we liked the look of last year's 85% year-on-year EBIT growth. So we don't think Wanguo Gold Group's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 3 warning signs we've spotted with Wanguo Gold Group (including 1 which makes us a bit uncomfortable) .

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.