Here's Why Tong Ren Tang Technologies (HKG:1666) Can Manage Its Debt Responsibly

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.' 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 note that Tong Ren Tang Technologies Co. Ltd. (HKG:1666) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.

See our latest analysis for Tong Ren Tang Technologies

What Is Tong Ren Tang Technologies's Net Debt?

As you can see below, Tong Ren Tang Technologies had CN¥1.46b of debt, at December 2023, which is about the same as the year before. You can click the chart for greater detail. However, it does have CN¥4.24b in cash offsetting this, leading to net cash of CN¥2.78b.

A Look At Tong Ren Tang Technologies' Liabilities

According to the last reported balance sheet, Tong Ren Tang Technologies had liabilities of CN¥2.24b due within 12 months, and liabilities of CN¥1.62b due beyond 12 months. Offsetting this, it had CN¥4.24b in cash and CN¥888.3m in receivables that were due within 12 months. So it actually has CN¥1.27b more liquid assets than total liabilities.

It's good to see that Tong Ren Tang Technologies has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, Tong Ren Tang Technologies boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Tong Ren Tang Technologies saw its EBIT drop by 8.0% in the last twelve months. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Tong Ren Tang Technologies 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. Tong Ren Tang Technologies 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, Tong Ren Tang Technologies produced sturdy free cash flow equating to 68% 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 Tong Ren Tang Technologies has CN¥2.78b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 68% of that EBIT to free cash flow, bringing in CN¥884m. So we don't think Tong Ren Tang Technologies's use of debt is risky. Given Tong Ren Tang Technologies has a strong balance sheet is profitable and pays a dividend, it would be good to know how fast its dividends are growing, if at all. You can find out instantly by clicking this link.

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.