Is InnoCare Pharma (HKG:9969) A Risky Investment?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies InnoCare Pharma Limited (HKG:9969) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for InnoCare Pharma

What Is InnoCare Pharma's Net Debt?

As you can see below, InnoCare Pharma had CN¥283.4m of debt at September 2022, down from CN¥1.24b a year prior. However, its balance sheet shows it holds CN¥8.67b in cash, so it actually has CN¥8.38b net cash.

How Healthy Is InnoCare Pharma's Balance Sheet?

We can see from the most recent balance sheet that InnoCare Pharma had liabilities of CN¥802.5m falling due within a year, and liabilities of CN¥1.85b due beyond that. On the other hand, it had cash of CN¥8.67b and CN¥130.8m worth of receivables due within a year. So it can boast CN¥6.15b more liquid assets than total liabilities.

It's good to see that InnoCare Pharma 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, InnoCare Pharma boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine InnoCare Pharma'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.

Over 12 months, InnoCare Pharma made a loss at the EBIT level, and saw its revenue drop to CN¥503m, which is a fall of 49%. That makes us nervous, to say the least.

So How Risky Is InnoCare Pharma?

We have no doubt that loss making companies are, in general, riskier than profitable ones. And the fact is that over the last twelve months InnoCare Pharma lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of CN¥884m and booked a CN¥987m accounting loss. While this does make the company a bit risky, it's important to remember it has net cash of CN¥8.38b. That kitty means the company can keep spending for growth for at least two years, at current rates. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. 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. Be aware that InnoCare Pharma is showing 1 warning sign in our investment analysis , you should know about...

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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.