Does CSPC Pharmaceutical Group (HKG:1093) Have A Healthy Balance Sheet?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 can see that CSPC Pharmaceutical Group Limited (HKG:1093) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for CSPC Pharmaceutical Group

How Much Debt Does CSPC Pharmaceutical Group Carry?

The image below, which you can click on for greater detail, shows that at December 2022 CSPC Pharmaceutical Group had debt of CN¥182.4m, up from CN¥94.0m in one year. However, its balance sheet shows it holds CN¥14.6b in cash, so it actually has CN¥14.4b net cash.

How Strong Is CSPC Pharmaceutical Group's Balance Sheet?

According to the last reported balance sheet, CSPC Pharmaceutical Group had liabilities of CN¥8.96b due within 12 months, and liabilities of CN¥1.17b due beyond 12 months. On the other hand, it had cash of CN¥14.6b and CN¥6.84b worth of receivables due within a year. So it can boast CN¥11.3b more liquid assets than total liabilities.

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

Fortunately, CSPC Pharmaceutical Group grew its EBIT by 4.3% in the last year, making that debt load look even more manageable. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine CSPC Pharmaceutical 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 company can only pay off debt with cold hard cash, not accounting profits. CSPC Pharmaceutical 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. During the last three years, CSPC Pharmaceutical Group produced sturdy free cash flow equating to 73% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While it is always sensible to investigate a company's debt, in this case CSPC Pharmaceutical Group has CN¥14.4b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥4.9b, being 73% of its EBIT. So is CSPC Pharmaceutical Group's debt a risk? It doesn't seem so to us. 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. To that end, you should be aware of the 1 warning sign we've spotted with CSPC Pharmaceutical 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.