The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We can see that MYS Group Co., Ltd. (SZSE:002303) does use debt in its business. But the more important question is: how much risk is that debt creating?
When Is Debt A Problem?
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. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
View our latest analysis for MYS Group
How Much Debt Does MYS Group Carry?
The image below, which you can click on for greater detail, shows that at September 2023 MYS Group had debt of CN¥1.09b, up from CN¥860.8m in one year. However, it does have CN¥2.02b in cash offsetting this, leading to net cash of CN¥926.2m.
How Healthy Is MYS Group's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that MYS Group had liabilities of CN¥1.90b due within 12 months and liabilities of CN¥638.2m due beyond that. On the other hand, it had cash of CN¥2.02b and CN¥1.25b worth of receivables due within a year. So it can boast CN¥732.0m more liquid assets than total liabilities.
This surplus suggests that MYS Group has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that MYS Group has more cash than debt is arguably a good indication that it can manage its debt safely.
Better yet, MYS Group grew its EBIT by 142% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since MYS Group will need earnings to service that debt. 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. MYS Group 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. Over the last three years, MYS Group recorded free cash flow worth a fulsome 97% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.
Summing Up
While we empathize with investors who find debt concerning, you should keep in mind that MYS Group has net cash of CN¥926.2m, as well as more liquid assets than liabilities. The cherry on top was that in converted 97% of that EBIT to free cash flow, bringing in CN¥246m. So we don't think MYS Group's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 3 warning signs for MYS Group (1 can't be ignored!) that you should be aware of before investing here.
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.