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 Innovative Medical Management Co.,Ltd. (SZSE:002173) does use debt in its business. But the real question is whether this debt is making the company risky.
Why Does Debt Bring Risk?
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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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. When we think about a company's use of debt, we first look at cash and debt together.
Check out our latest analysis for Innovative Medical ManagementLtd
What Is Innovative Medical ManagementLtd's Debt?
The image below, which you can click on for greater detail, shows that at September 2023 Innovative Medical ManagementLtd had debt of CN¥30.0m, up from CN¥23.1m in one year. But on the other hand it also has CN¥620.9m in cash, leading to a CN¥590.9m net cash position.
How Strong Is Innovative Medical ManagementLtd's Balance Sheet?
According to the last reported balance sheet, Innovative Medical ManagementLtd had liabilities of CN¥311.4m due within 12 months, and liabilities of CN¥88.2m due beyond 12 months. Offsetting this, it had CN¥620.9m in cash and CN¥88.6m in receivables that were due within 12 months. So it actually has CN¥309.9m more liquid assets than total liabilities.
This short term liquidity is a sign that Innovative Medical ManagementLtd could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Innovative Medical ManagementLtd has more cash than debt is arguably a good indication that it can manage its debt safely. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Innovative Medical ManagementLtd 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.
In the last year Innovative Medical ManagementLtd wasn't profitable at an EBIT level, but managed to grow its revenue by 8.1%, to CN¥776m. That rate of growth is a bit slow for our taste, but it takes all types to make a world.
So How Risky Is Innovative Medical ManagementLtd?
We have no doubt that loss making companies are, in general, riskier than profitable ones. And the fact is that over the last twelve months Innovative Medical ManagementLtd lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through CN¥21m of cash and made a loss of CN¥75m. Given it only has net cash of CN¥590.9m, the company may need to raise more capital if it doesn't reach break-even soon. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 1 warning sign for Innovative Medical ManagementLtd that you should be aware of.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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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.