Is Qingdao Port International (HKG:6198) 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.' 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. We can see that Qingdao Port International Co., Ltd. (HKG:6198) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Qingdao Port International

How Much Debt Does Qingdao Port International Carry?

The image below, which you can click on for greater detail, shows that at June 2023 Qingdao Port International had debt of CN¥2.85b, up from CN¥1.07b in one year. However, its balance sheet shows it holds CN¥11.2b in cash, so it actually has CN¥8.38b net cash.

How Strong Is Qingdao Port International's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Qingdao Port International had liabilities of CN¥10.7b due within 12 months and liabilities of CN¥7.55b due beyond that. Offsetting these obligations, it had cash of CN¥11.2b as well as receivables valued at CN¥3.62b due within 12 months. So its liabilities total CN¥3.37b more than the combination of its cash and short-term receivables.

Given Qingdao Port International has a market capitalization of CN¥36.7b, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, Qingdao Port International also has more cash than debt, so we're pretty confident it can manage its debt safely.

And we also note warmly that Qingdao Port International grew its EBIT by 12% last year, making its debt load easier to handle. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Qingdao Port International'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Qingdao Port International 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, Qingdao Port International's free cash flow amounted to 48% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Qingdao Port International has CN¥8.38b in net cash. On top of that, it increased its EBIT by 12% in the last twelve months. So is Qingdao Port International's debt a risk? It doesn't seem so to us. 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. For instance, we've identified 1 warning sign for Qingdao Port International that 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. 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.