Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. As with many other companies Porton Pharma Solutions Ltd. (SZSE:300363) makes use of debt. But the real question is whether this debt is making the company risky.
When Is Debt Dangerous?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.
Check out our latest analysis for Porton Pharma Solutions
How Much Debt Does Porton Pharma Solutions Carry?
You can click the graphic below for the historical numbers, but it shows that as of September 2023 Porton Pharma Solutions had CN¥942.1m of debt, an increase on CN¥846.3m, over one year. But it also has CN¥2.12b in cash to offset that, meaning it has CN¥1.18b net cash.
How Strong Is Porton Pharma Solutions' Balance Sheet?
We can see from the most recent balance sheet that Porton Pharma Solutions had liabilities of CN¥1.53b falling due within a year, and liabilities of CN¥1.30b due beyond that. On the other hand, it had cash of CN¥2.12b and CN¥778.7m worth of receivables due within a year. So it actually has CN¥69.5m more liquid assets than total liabilities.
Having regard to Porton Pharma Solutions' size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the CN¥13.2b company is short on cash, but still worth keeping an eye on the balance sheet. Succinctly put, Porton Pharma Solutions boasts net cash, so it's fair to say it does not have a heavy debt load!
It is just as well that Porton Pharma Solutions's load is not too heavy, because its EBIT was down 52% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Porton Pharma Solutions 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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Porton Pharma Solutions 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. Looking at the most recent three years, Porton Pharma Solutions recorded free cash flow of 36% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.
Summing Up
While it is always sensible to investigate a company's debt, in this case Porton Pharma Solutions has CN¥1.18b in net cash and a decent-looking balance sheet. So we don't have any problem with Porton Pharma Solutions's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Porton Pharma Solutions is showing 4 warning signs in our investment analysis , and 2 of those can't be ignored...
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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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.