Tencent Music Entertainment Group (NYSE:TME) 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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Tencent Music Entertainment Group (NYSE:TME) does use debt in its business. But should shareholders be worried about its use of debt?

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. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Tencent Music Entertainment Group

What Is Tencent Music Entertainment Group's Debt?

As you can see below, Tencent Music Entertainment Group had CN¥5.65b of debt, at March 2024, which is about the same as the year before. You can click the chart for greater detail. However, its balance sheet shows it holds CN¥26.6b in cash, so it actually has CN¥21.0b net cash.

How Strong Is Tencent Music Entertainment Group's Balance Sheet?

We can see from the most recent balance sheet that Tencent Music Entertainment Group had liabilities of CN¥12.2b falling due within a year, and liabilities of CN¥6.23b due beyond that. Offsetting this, it had CN¥26.6b in cash and CN¥2.81b in receivables that were due within 12 months. So it can boast CN¥11.0b 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!

In addition to that, we're happy to report that Tencent Music Entertainment Group has boosted its EBIT by 35%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Tencent Music Entertainment Group can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs 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. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Tencent Music Entertainment Group has net cash of CN¥21.0b, as well as more liquid assets than liabilities. The cherry on top was that in converted 129% of that EBIT to free cash flow, bringing in CN¥7.0b. So we don't think Tencent Music Entertainment Group's use of debt is risky. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Tencent Music Entertainment Group's earnings per share history for free.

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.

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