Here's Why Quantum Foods Holdings (JSE:QFH) Can Manage Its Debt Responsibly

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.' 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. Importantly, Quantum Foods Holdings Ltd (JSE:QFH) does carry debt. But the more important question is: how much risk is that debt creating?

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. If things get really bad, the lenders can take control of the business. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Quantum Foods Holdings

How Much Debt Does Quantum Foods Holdings Carry?

As you can see below, at the end of September 2024, Quantum Foods Holdings had R99.4m of debt, up from none a year ago. Click the image for more detail. However, its balance sheet shows it holds R245.8m in cash, so it actually has R146.4m net cash.

How Strong Is Quantum Foods Holdings' Balance Sheet?

According to the last reported balance sheet, Quantum Foods Holdings had liabilities of R737.5m due within 12 months, and liabilities of R383.2m due beyond 12 months. Offsetting this, it had R245.8m in cash and R718.6m in receivables that were due within 12 months. So its liabilities total R156.3m more than the combination of its cash and short-term receivables.

Given Quantum Foods Holdings has a market capitalization of R1.71b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Quantum Foods Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

Although Quantum Foods Holdings made a loss at the EBIT level, last year, it was also good to see that it generated R235m in EBIT over the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But it is Quantum Foods Holdings's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Quantum Foods 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. In the last year, Quantum Foods Holdings's free cash flow amounted to 47% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

We could understand if investors are concerned about Quantum Foods Holdings's liabilities, but we can be reassured by the fact it has has net cash of R146.4m. So we are not troubled with Quantum Foods Holdings's debt use. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 3 warning signs we've spotted with Quantum Foods Holdings (including 2 which are potentially serious) .

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.