These 4 Measures Indicate That United Laboratories International Holdings (HKG:3933) Is Using Debt Safely

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. As with many other companies The United Laboratories International Holdings Limited (HKG:3933) makes use of debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for United Laboratories International Holdings

What Is United Laboratories International Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that at June 2024 United Laboratories International Holdings had debt of CN¥2.44b, up from CN¥1.52b in one year. However, its balance sheet shows it holds CN¥6.55b in cash, so it actually has CN¥4.12b net cash.

How Healthy Is United Laboratories International Holdings' Balance Sheet?

According to the last reported balance sheet, United Laboratories International Holdings had liabilities of CN¥7.41b due within 12 months, and liabilities of CN¥1.84b due beyond 12 months. Offsetting these obligations, it had cash of CN¥6.55b as well as receivables valued at CN¥5.45b due within 12 months. So it can boast CN¥2.75b 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.

Also positive, United Laboratories International Holdings grew its EBIT by 27% in the last year, and that should make it easier to pay down debt, going forward. 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While United Laboratories International Holdings 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, United Laboratories International Holdings produced sturdy free cash flow equating to 53% 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 United Laboratories International Holdings has CN¥4.12b in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 27% over the last year. So we don't think United Laboratories International Holdings's use of debt is risky. 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 United Laboratories International Holdings , and understanding them should be part of your investment process.

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.

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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.