These 4 Measures Indicate That Shanghai Haohai Biological Technology (HKG:6826) Is Using Debt Reasonably Well

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. As with many other companies Shanghai Haohai Biological Technology Co., Ltd. (HKG:6826) makes use of debt. But the more important question is: how much risk is that debt creating?

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. 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Shanghai Haohai Biological Technology

What Is Shanghai Haohai Biological Technology's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 Shanghai Haohai Biological Technology had CN¥72.8m of debt, an increase on CN¥15.3m, over one year. However, its balance sheet shows it holds CN¥3.17b in cash, so it actually has CN¥3.09b net cash.

How Healthy Is Shanghai Haohai Biological Technology's Balance Sheet?

The latest balance sheet data shows that Shanghai Haohai Biological Technology had liabilities of CN¥433.8m due within a year, and liabilities of CN¥130.7m falling due after that. On the other hand, it had cash of CN¥3.17b and CN¥345.2m worth of receivables due within a year. So it actually has CN¥2.95b more liquid assets than total liabilities.

It's good to see that Shanghai Haohai Biological Technology 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, Shanghai Haohai Biological Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Shanghai Haohai Biological Technology's load is not too heavy, because its EBIT was down 58% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Shanghai Haohai Biological Technology can strengthen its balance sheet over time. 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. Shanghai Haohai Biological Technology 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. In the last three years, Shanghai Haohai Biological Technology's free cash flow amounted to 29% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Shanghai Haohai Biological Technology has net cash of CN¥3.09b, as well as more liquid assets than liabilities. So we don't have any problem with Shanghai Haohai Biological Technology's use of debt. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Shanghai Haohai Biological Technology's earnings per share history for free.

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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