PDD Holdings (NASDAQ:PDD) Seems To Use Debt Rather Sparingly

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, PDD Holdings Inc. (NASDAQ:PDD) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for PDD Holdings

What Is PDD Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that at March 2023 PDD Holdings had debt of CN¥15.3b, up from CN¥14.1b in one year. However, its balance sheet shows it holds CN¥157.0b in cash, so it actually has CN¥141.8b net cash.

How Healthy Is PDD Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that PDD Holdings had liabilities of CN¥111.0b due within 12 months and liabilities of CN¥2.53b due beyond that. On the other hand, it had cash of CN¥157.0b and CN¥5.59b worth of receivables due within a year. So it can boast CN¥49.1b more liquid assets than total liabilities.

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

Even more impressive was the fact that PDD Holdings grew its EBIT by 167% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. 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 PDD Holdings'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 PDD 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. Happily for any shareholders, PDD Holdings actually produced more free cash flow than EBIT over the last two years. 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 PDD Holdings has CN¥141.8b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥58b, being 162% of its EBIT. So we don't think PDD Holdings'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 instance, we've identified 1 warning sign for PDD Holdings that you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.