Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Shanghai Shyndec Pharmaceutical Co., Ltd. (SHSE:600420) does carry debt. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
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. 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. When we examine debt levels, we first consider both cash and debt levels, together.
What Is Shanghai Shyndec Pharmaceutical's Net Debt?
The image below, which you can click on for greater detail, shows that Shanghai Shyndec Pharmaceutical had debt of CN¥1.14b at the end of September 2023, a reduction from CN¥3.32b over a year. However, it does have CN¥5.62b in cash offsetting this, leading to net cash of CN¥4.48b.
How Strong Is Shanghai Shyndec Pharmaceutical's Balance Sheet?
We can see from the most recent balance sheet that Shanghai Shyndec Pharmaceutical had liabilities of CN¥3.53b falling due within a year, and liabilities of CN¥1.32b due beyond that. Offsetting this, it had CN¥5.62b in cash and CN¥2.47b in receivables that were due within 12 months. So it actually has CN¥3.24b more liquid assets than total liabilities.
This surplus suggests that Shanghai Shyndec Pharmaceutical is using debt in a way that is appears to be both safe and conservative. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that Shanghai Shyndec Pharmaceutical has more cash than debt is arguably a good indication that it can manage its debt safely.
On top of that, Shanghai Shyndec Pharmaceutical grew its EBIT by 32% 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 Shanghai Shyndec Pharmaceutical'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, a company can only pay off debt with cold hard cash, not accounting profits. Shanghai Shyndec Pharmaceutical 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. Happily for any shareholders, Shanghai Shyndec Pharmaceutical actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.
Summing Up
While it is always sensible to investigate a company's debt, in this case Shanghai Shyndec Pharmaceutical has CN¥4.48b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥2.0b, being 189% of its EBIT. When it comes to Shanghai Shyndec Pharmaceutical's debt, we sufficiently relaxed that our mind turns to the jacuzzi. 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. For instance, we've identified 2 warning signs for Shanghai Shyndec Pharmaceutical that you should be aware of.
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.