We Think Sino Biopharmaceutical (HKG:1177) Can Manage Its Debt With Ease

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 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 Sino Biopharmaceutical Limited (HKG:1177) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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.

View our latest analysis for Sino Biopharmaceutical

How Much Debt Does Sino Biopharmaceutical Carry?

As you can see below, Sino Biopharmaceutical had CN¥11.2b of debt, at June 2023, which is about the same as the year before. You can click the chart for greater detail. But it also has CN¥15.7b in cash to offset that, meaning it has CN¥4.49b net cash.

A Look At Sino Biopharmaceutical's Liabilities

The latest balance sheet data shows that Sino Biopharmaceutical had liabilities of CN¥26.9b due within a year, and liabilities of CN¥2.32b falling due after that. Offsetting this, it had CN¥15.7b in cash and CN¥7.19b in receivables that were due within 12 months. So it has liabilities totalling CN¥6.32b more than its cash and near-term receivables, combined.

Since publicly traded Sino Biopharmaceutical shares are worth a total of CN¥53.0b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Sino Biopharmaceutical also has more cash than debt, so we're pretty confident it can manage its debt safely.

Also positive, Sino Biopharmaceutical grew its EBIT by 22% in the last year, and that should make it easier to pay down debt, going forward. 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 Sino Biopharmaceutical's ability to maintain a healthy balance sheet going forward. 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. While Sino Biopharmaceutical 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. During the last three years, Sino Biopharmaceutical generated free cash flow amounting to a very robust 92% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

Although Sino Biopharmaceutical's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥4.49b. The cherry on top was that in converted 92% of that EBIT to free cash flow, bringing in CN¥4.7b. So is Sino Biopharmaceutical's debt a risk? It doesn't seem so to us. 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. We've identified 1 warning sign with Sino Biopharmaceutical , and understanding them should be part of your investment process.

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.