These 4 Measures Indicate That Vipshop Holdings (NYSE:VIPS) Is Using Debt Reasonably Well

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 note that Vipshop Holdings Limited (NYSE:VIPS) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Vipshop Holdings

What Is Vipshop Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that Vipshop Holdings had debt of CN¥1.78b at the end of June 2022, a reduction from CN¥1.96b over a year. But it also has CN¥20.4b in cash to offset that, meaning it has CN¥18.6b net cash.

A Look At Vipshop Holdings' Liabilities

The latest balance sheet data shows that Vipshop Holdings had liabilities of CN¥23.3b due within a year, and liabilities of CN¥2.50b falling due after that. Offsetting these obligations, it had cash of CN¥20.4b as well as receivables valued at CN¥3.45b due within 12 months. So it has liabilities totalling CN¥1.95b more than its cash and near-term receivables, combined.

Of course, Vipshop Holdings has a market capitalization of CN¥37.7b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, Vipshop Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact Vipshop Holdings's saving grace is its low debt levels, because its EBIT has tanked 25% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. 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 Vipshop Holdings 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. While Vipshop 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, Vipshop Holdings actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

We could understand if investors are concerned about Vipshop Holdings's liabilities, but we can be reassured by the fact it has has net cash of CN¥18.6b. The cherry on top was that in converted 104% of that EBIT to free cash flow, bringing in CN¥3.2b. So we don't have any problem with Vipshop Holdings's use of debt. 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 Vipshop Holdings's earnings per share history for free.

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.