Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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 note that Winning Health Technology Group Co., Ltd. (SZSE:300253) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Winning Health Technology Group's Net Debt?
You can click the graphic below for the historical numbers, but it shows that as of March 2024 Winning Health Technology Group had CN¥1.05b of debt, an increase on CN¥995.8m, over one year. However, it does have CN¥973.1m in cash offsetting this, leading to net debt of about CN¥75.1m.
How Strong Is Winning Health Technology Group's Balance Sheet?
The latest balance sheet data shows that Winning Health Technology Group had liabilities of CN¥1.56b due within a year, and liabilities of CN¥1.16b falling due after that. Offsetting this, it had CN¥973.1m in cash and CN¥3.53b in receivables that were due within 12 months. So it can boast CN¥1.78b more liquid assets than total liabilities.
This surplus suggests that Winning Health Technology Group has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Carrying virtually no net debt, Winning Health Technology Group has a very light debt load indeed.
In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.
Winning Health Technology Group has a low net debt to EBITDA ratio of only 0.19. And its EBIT covers its interest expense a whopping 16.6 times over. So we're pretty relaxed about its super-conservative use of debt. It was also good to see that despite losing money on the EBIT line last year, Winning Health Technology Group turned things around in the last 12 months, delivering and EBIT of CN¥373m. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Winning Health Technology Group can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. During the last year, Winning Health Technology Group burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.
Our View
Happily, Winning Health Technology Group's impressive interest cover implies it has the upper hand on its debt. But the stark truth is that we are concerned by its conversion of EBIT to free cash flow. It's also worth noting that Winning Health Technology Group is in the Healthcare Services industry, which is often considered to be quite defensive. All these things considered, it appears that Winning Health Technology Group can comfortably handle its current debt levels. On the plus side, this leverage can boost shareholder returns, but the potential downside is more risk of loss, so it's worth monitoring the balance sheet. 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. Case in point: We've spotted 1 warning sign for Winning Health Technology Group 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.
