Consun Pharmaceutical Group (HKG:1681) Seems To Use Debt Quite Sensibly

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 Consun Pharmaceutical Group Limited (HKG:1681) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Consun Pharmaceutical Group

How Much Debt Does Consun Pharmaceutical Group Carry?

You can click the graphic below for the historical numbers, but it shows that Consun Pharmaceutical Group had CN¥585.2m of debt in June 2020, down from CN¥714.2m, one year before. However, it does have CN¥1.52b in cash offsetting this, leading to net cash of CN¥936.0m.

A Look At Consun Pharmaceutical Group's Liabilities

According to the last reported balance sheet, Consun Pharmaceutical Group had liabilities of CN¥1.21b due within 12 months, and liabilities of CN¥105.4m due beyond 12 months. On the other hand, it had cash of CN¥1.52b and CN¥606.8m worth of receivables due within a year. So it can boast CN¥812.1m more liquid assets than total liabilities.

This surplus strongly suggests that Consun Pharmaceutical Group has a rock-solid balance sheet (and the debt is of no concern whatsoever). Having regard to this fact, we think its balance sheet is just as strong as misogynists are weak. Succinctly put, Consun Pharmaceutical Group boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact Consun Pharmaceutical Group's saving grace is its low debt levels, because its EBIT has tanked 38% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Consun Pharmaceutical Group'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 company can only pay off debt with cold hard cash, not accounting profits. Consun 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. Over the most recent three years, Consun Pharmaceutical Group recorded free cash flow worth 72% 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 Consun Pharmaceutical Group has net cash of CN¥936.0m, as well as more liquid assets than liabilities. The cherry on top was that in converted 72% of that EBIT to free cash flow, bringing in CN¥465m. So we don't think Consun Pharmaceutical Group's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Consun Pharmaceutical Group is showing 3 warning signs in our investment analysis , you should know about...

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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