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Is Yum China Holdings (NYSE:YUMC) Using Too Much Debt?

Simply Wall St ·  11/15/2023 20:00

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 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. We can see that Yum China Holdings, Inc. (NYSE:YUMC) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Yum China Holdings

How Much Debt Does Yum China Holdings Carry?

The image below, which you can click on for greater detail, shows that at September 2023 Yum China Holdings had debt of US$210.0m, up from none in one year. But on the other hand it also has US$3.13b in cash, leading to a US$2.92b net cash position.

debt-equity-history-analysis
NYSE:YUMC Debt to Equity History November 15th 2023

How Healthy Is Yum China Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Yum China Holdings had liabilities of US$2.47b due within 12 months and liabilities of US$2.34b due beyond that. On the other hand, it had cash of US$3.13b and US$62.0m worth of receivables due within a year. So its liabilities total US$1.62b more than the combination of its cash and short-term receivables.

Given Yum China Holdings has a humongous market capitalization of US$18.4b, 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, Yum China Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

On top of that, Yum China Holdings grew its EBIT by 85% over the last twelve months, and that growth will make it easier to handle its debt. 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 Yum China Holdings's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Yum China Holdings 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. During the last three years, Yum China Holdings generated free cash flow amounting to a very robust 80% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

We could understand if investors are concerned about Yum China Holdings's liabilities, but we can be reassured by the fact it has has net cash of US$2.92b. The cherry on top was that in converted 80% of that EBIT to free cash flow, bringing in US$749m. So we don't think Yum China Holdings's use of debt is risky. Another factor that would give us confidence in Yum China Holdings would be if insiders have been buying shares: if you're conscious of that signal too, you can find out instantly by clicking this link.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.

Disclaimer: This content is for informational and educational purposes only and does not constitute a recommendation or endorsement of any specific investment or investment strategy. Read more
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