Yum China Holdings (NYSE:YUMC) Could Easily Take On More Debt

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.' 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. As with many other companies Yum China Holdings, Inc. (NYSE:YUMC) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Yum China Holdings

How Much Debt Does Yum China Holdings Carry?

The image below, which you can click on for greater detail, shows that at September 2023 Yum China Holdings had debt of US$210.0m, up from none in one year. However, it does have US$3.13b in cash offsetting this, leading to net cash of US$2.92b.

How Healthy Is Yum China Holdings' Balance Sheet?

The latest balance sheet data shows that Yum China Holdings had liabilities of US$2.47b due within a year, and liabilities of US$2.34b falling due after that. Offsetting this, it had US$3.13b in cash and US$62.0m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$1.62b.

Of course, Yum China Holdings has a titanic market capitalization of US$18.5b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, Yum China Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Yum China Holdings has boosted its EBIT by 85%, thus reducing the spectre of future debt repayments. 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 Yum China 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. While Yum China 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. During the last three years, Yum China Holdings generated free cash flow amounting to a very robust 80% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Yum China Holdings has US$2.92b in net cash. And it impressed us with free cash flow of US$749m, being 80% of its EBIT. So we don't think Yum China Holdings's use of debt is risky. Another factor that would give us confidence in Yum China Holdings would be if insiders have been buying shares: if you're conscious of that signal too, you can find out instantly by clicking this link.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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.