Is United Laboratories International Holdings (HKG:3933) A Risky Investment?

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.' 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 note that The United Laboratories International Holdings Limited (HKG:3933) 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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for United Laboratories International Holdings

What Is United Laboratories International Holdings's Debt?

The image below, which you can click on for greater detail, shows that United Laboratories International Holdings had debt of CN¥1.52b at the end of June 2023, a reduction from CN¥2.14b over a year. But on the other hand it also has CN¥4.77b in cash, leading to a CN¥3.25b net cash position.

How Strong Is United Laboratories International Holdings' Balance Sheet?

We can see from the most recent balance sheet that United Laboratories International Holdings had liabilities of CN¥7.06b falling due within a year, and liabilities of CN¥1.17b due beyond that. Offsetting this, it had CN¥4.77b in cash and CN¥5.58b in receivables that were due within 12 months. So it actually has CN¥2.11b more liquid assets than total liabilities.

This excess liquidity suggests that United Laboratories International Holdings is taking a careful approach to debt. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that United Laboratories International Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

On top of that, United Laboratories International Holdings grew its EBIT by 87% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine United Laboratories International Holdings'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. United Laboratories International Holdings 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, United Laboratories International Holdings recorded free cash flow worth 57% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that United Laboratories International Holdings has net cash of CN¥3.25b, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 87% over the last year. So is United Laboratories International Holdings'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. Be aware that United Laboratories International Holdings is showing 2 warning signs in our investment analysis , and 1 of those is significant...

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.