Is WellCell Holdings (HKG:2477) Using Too Much Debt?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, WellCell Holdings Co., Limited (HKG:2477) does carry debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for WellCell Holdings

How Much Debt Does WellCell Holdings Carry?

You can click the graphic below for the historical numbers, but it shows that WellCell Holdings had CN¥21.1m of debt in June 2024, down from CN¥32.1m, one year before. However, its balance sheet shows it holds CN¥99.4m in cash, so it actually has CN¥78.3m net cash.

How Strong Is WellCell Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that WellCell Holdings had liabilities of CN¥82.7m due within 12 months and liabilities of CN¥1.31m due beyond that. Offsetting these obligations, it had cash of CN¥99.4m as well as receivables valued at CN¥142.6m due within 12 months. So it actually has CN¥158.0m more liquid assets than total liabilities.

This surplus suggests that WellCell Holdings is using debt in a way that is appears to be both safe and conservative. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that WellCell Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Fortunately, WellCell Holdings grew its EBIT by 4.2% in the last year, making that debt load look even more manageable. There's no doubt that we learn most about debt from the balance sheet. But it is WellCell Holdings's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While WellCell 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 last three years, WellCell Holdings reported free cash flow worth 10% of its EBIT, which is really quite low. That limp level of cash conversion undermines its ability to manage and pay down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that WellCell Holdings has net cash of CN¥78.3m, as well as more liquid assets than liabilities. And it also grew its EBIT by 4.2% over the last year. So we are not troubled with WellCell Holdings's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 3 warning signs we've spotted with WellCell Holdings (including 1 which can't be ignored) .

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.