These 4 Measures Indicate That JD.com (NASDAQ:JD) Is Using Debt Safely

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that JD.com, Inc. (NASDAQ:JD) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for JD.com

What Is JD.com's Net Debt?

As you can see below, at the end of September 2022, JD.com had CN¥46.6b of debt, up from CN¥19.5b a year ago. Click the image for more detail. However, it does have CN¥211.8b in cash offsetting this, leading to net cash of CN¥165.2b.

How Strong Is JD.com's Balance Sheet?

We can see from the most recent balance sheet that JD.com had liabilities of CN¥256.3b falling due within a year, and liabilities of CN¥52.1b due beyond that. Offsetting this, it had CN¥211.8b in cash and CN¥24.2b in receivables that were due within 12 months. So its liabilities total CN¥72.4b more than the combination of its cash and short-term receivables.

Given JD.com has a humongous market capitalization of CN¥635.1b, 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. Despite its noteworthy liabilities, JD.com boasts net cash, so it's fair to say it does not have a heavy debt load!

Even more impressive was the fact that JD.com grew its EBIT by 305% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. 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 JD.com 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. JD.com 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. Happily for any shareholders, JD.com actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

Although JD.com's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥165.2b. And it impressed us with free cash flow of CN¥21b, being 244% of its EBIT. So we don't think JD.com'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. To that end, you should be aware of the 2 warning signs we've spotted with JD.com .

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.