Is Tencent Music Entertainment Group (NYSE:TME) A Risky Investment?

Warren Buffett famously said, '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. Importantly, Tencent Music Entertainment Group (NYSE:TME) does carry debt. But is this debt a concern to shareholders?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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 Tencent Music Entertainment Group

What Is Tencent Music Entertainment Group's Net Debt?

The image below, which you can click on for greater detail, shows that at June 2021 Tencent Music Entertainment Group had debt of CN¥5.13b, up from none in one year. However, it does have CN¥22.3b in cash offsetting this, leading to net cash of CN¥17.2b.

A Look At Tencent Music Entertainment Group's Liabilities

According to the last reported balance sheet, Tencent Music Entertainment Group had liabilities of CN¥9.86b due within 12 months, and liabilities of CN¥5.83b due beyond 12 months. Offsetting these obligations, it had cash of CN¥22.3b as well as receivables valued at CN¥2.60b due within 12 months. So it actually has CN¥9.24b more liquid assets than total liabilities.

This short term liquidity is a sign that Tencent Music Entertainment Group could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Tencent Music Entertainment Group boasts net cash, so it's fair to say it does not have a heavy debt load!

The good news is that Tencent Music Entertainment Group has increased its EBIT by 4.9% over twelve months, which should ease any concerns about debt repayment. 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 Tencent Music Entertainment Group'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Tencent Music Entertainment Group 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, Tencent Music Entertainment Group actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

While it is always sensible to investigate a company's debt, in this case Tencent Music Entertainment Group has CN¥17.2b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 163% of that EBIT to free cash flow, bringing in CN¥4.7b. So we don't think Tencent Music Entertainment Group's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 1 warning sign for Tencent Music Entertainment Group you should be aware of.

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.

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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