Guangzhou Baiyunshan Pharmaceutical Holdings (HKG:874) Has A Pretty Healthy Balance Sheet

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. Importantly, Guangzhou Baiyunshan Pharmaceutical Holdings Company Limited (HKG:874) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. If things get really bad, the lenders can take control of the business. 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.

Check out our latest analysis for Guangzhou Baiyunshan Pharmaceutical Holdings

How Much Debt Does Guangzhou Baiyunshan Pharmaceutical Holdings Carry?

As you can see below, at the end of September 2020, Guangzhou Baiyunshan Pharmaceutical Holdings had CN¥8.26b of debt, up from CN¥7.30b a year ago. Click the image for more detail. However, its balance sheet shows it holds CN¥19.5b in cash, so it actually has CN¥11.2b net cash.

How Healthy Is Guangzhou Baiyunshan Pharmaceutical Holdings's Balance Sheet?

According to the last reported balance sheet, Guangzhou Baiyunshan Pharmaceutical Holdings had liabilities of CN¥28.2b due within 12 months, and liabilities of CN¥2.04b due beyond 12 months. Offsetting these obligations, it had cash of CN¥19.5b as well as receivables valued at CN¥16.4b due within 12 months. So it can boast CN¥5.68b more liquid assets than total liabilities.

This surplus suggests that Guangzhou Baiyunshan Pharmaceutical Holdings has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Guangzhou Baiyunshan Pharmaceutical Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Guangzhou Baiyunshan Pharmaceutical Holdings's load is not too heavy, because its EBIT was down 29% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. 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 Guangzhou Baiyunshan Pharmaceutical Holdings 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. While Guangzhou Baiyunshan Pharmaceutical 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. Over the most recent three years, Guangzhou Baiyunshan Pharmaceutical Holdings recorded free cash flow worth 76% 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 Guangzhou Baiyunshan Pharmaceutical Holdings has net cash of CN¥11.2b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥3.5b, being 76% of its EBIT. So we don't have any problem with Guangzhou Baiyunshan Pharmaceutical Holdings's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Take risks, for example - Guangzhou Baiyunshan Pharmaceutical Holdings has 2 warning signs we think you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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This article by Simply Wall St is general in nature. 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.
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