Tencent Music Entertainment Group (NYSE:TME) Has A Rock Solid Balance Sheet

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. We can see that Tencent Music Entertainment Group (NYSE:TME) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Tencent Music Entertainment Group

What Is Tencent Music Entertainment Group's Debt?

The image below, which you can click on for greater detail, shows that Tencent Music Entertainment Group had debt of CN¥5.15b at the end of September 2021, a reduction from CN¥5.40b over a year. But on the other hand it also has CN¥20.2b in cash, leading to a CN¥15.1b net cash position.

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

According to the last reported balance sheet, Tencent Music Entertainment Group had liabilities of CN¥9.96b due within 12 months, and liabilities of CN¥5.82b due beyond 12 months. On the other hand, it had cash of CN¥20.2b and CN¥2.69b worth of receivables due within a year. So it can boast CN¥7.15b 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!

On the other hand, Tencent Music Entertainment Group saw its EBIT drop by 6.3% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. The balance sheet is clearly the area to focus on when you are analysing debt. 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 generation warms our hearts like a puppy in a bumblebee suit.

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¥15.1b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥5.8b, being 167% of its EBIT. 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. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - Tencent Music Entertainment Group has 1 warning sign we think 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.

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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.