We Think Shanghai Fudan-Zhangjiang Bio-Pharmaceutical (HKG:1349) Can Manage Its Debt With Ease

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. Importantly, Shanghai Fudan-Zhangjiang Bio-Pharmaceutical Co., Ltd. (HKG:1349) does carry debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. 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 Shanghai Fudan-Zhangjiang Bio-Pharmaceutical

What Is Shanghai Fudan-Zhangjiang Bio-Pharmaceutical's Debt?

The image below, which you can click on for greater detail, shows that Shanghai Fudan-Zhangjiang Bio-Pharmaceutical had debt of CN¥100.0m at the end of September 2020, a reduction from CN¥148.9m over a year. But on the other hand it also has CN¥1.42b in cash, leading to a CN¥1.32b net cash position.

How Strong Is Shanghai Fudan-Zhangjiang Bio-Pharmaceutical's Balance Sheet?

The latest balance sheet data shows that Shanghai Fudan-Zhangjiang Bio-Pharmaceutical had liabilities of CN¥427.9m due within a year, and liabilities of CN¥64.3m falling due after that. Offsetting this, it had CN¥1.42b in cash and CN¥499.9m in receivables that were due within 12 months. So it actually has CN¥1.42b more liquid assets than total liabilities.

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

In addition to that, we're happy to report that Shanghai Fudan-Zhangjiang Bio-Pharmaceutical has boosted its EBIT by 34%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Shanghai Fudan-Zhangjiang Bio-Pharmaceutical will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Shanghai Fudan-Zhangjiang Bio-Pharmaceutical 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 three years, Shanghai Fudan-Zhangjiang Bio-Pharmaceutical recorded free cash flow worth a fulsome 88% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing up

While it is always sensible to investigate a company's debt, in this case Shanghai Fudan-Zhangjiang Bio-Pharmaceutical has CN¥1.32b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥120m, being 88% of its EBIT. So is Shanghai Fudan-Zhangjiang Bio-Pharmaceutical's debt a risk? It doesn't seem so to us. 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. For example - Shanghai Fudan-Zhangjiang Bio-Pharmaceutical has 1 warning sign we think you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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