Is Meituan (HKG:3690) Weighed On By Its Debt Load?

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.' 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. We can see that Meituan (HKG:3690) does use debt in its business. But the more important question is: how much risk is that debt creating?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Meituan

What Is Meituan's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2021 Meituan had CN¥49.7b of debt, an increase on CN¥3.32b, over one year. However, its balance sheet shows it holds CN¥122.8b in cash, so it actually has CN¥73.0b net cash.

A Look At Meituan's Liabilities

According to the last reported balance sheet, Meituan had liabilities of CN¥61.1b due within 12 months, and liabilities of CN¥41.2b due beyond 12 months. On the other hand, it had cash of CN¥122.8b and CN¥8.60b worth of receivables due within a year. So it actually has CN¥29.1b more liquid assets than total liabilities.

This short term liquidity is a sign that Meituan could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Meituan has more cash than debt is arguably a good indication that it can manage its debt safely. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Meituan'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, Meituan reported revenue of CN¥153b, which is a gain of 59%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.

So How Risky Is Meituan?

Statistically speaking companies that lose money are riskier than those that make money. And the fact is that over the last twelve months Meituan lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of CN¥12b and booked a CN¥4.1b accounting loss. With only CN¥73.0b on the balance sheet, it would appear that its going to need to raise capital again soon. With very solid revenue growth in the last year, Meituan may be on a path to profitability. Pre-profit companies are often risky, but they can also offer great rewards. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Meituan is showing 2 warning signs in our investment analysis , you should know about...

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.

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.

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