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.' 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. We can see that Country Garden Services Holdings Company Limited (HKG:6098) does use debt in its business. But the more important question is: how much risk is that debt creating?
When Is Debt A Problem?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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 examine debt levels, we first consider both cash and debt levels, together.
See our latest analysis for Country Garden Services Holdings
What Is Country Garden Services Holdings's Debt?
You can click the graphic below for the historical numbers, but it shows that Country Garden Services Holdings had CN¥1.21b of debt in June 2024, down from CN¥1.85b, one year before. However, it does have CN¥13.6b in cash offsetting this, leading to net cash of CN¥12.4b.
How Strong Is Country Garden Services Holdings' Balance Sheet?
According to the last reported balance sheet, Country Garden Services Holdings had liabilities of CN¥27.3b due within 12 months, and liabilities of CN¥4.39b due beyond 12 months. Offsetting this, it had CN¥13.6b in cash and CN¥20.7b in receivables that were due within 12 months. So it actually has CN¥2.53b more liquid assets than total liabilities.
This short term liquidity is a sign that Country Garden Services Holdings could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Country Garden Services Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!
In fact Country Garden Services Holdings's saving grace is its low debt levels, because its EBIT has tanked 74% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Country Garden Services Holdings 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. Country Garden Services 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. Over the most recent three years, Country Garden Services Holdings recorded free cash flow worth 68% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.
Summing Up
While we empathize with investors who find debt concerning, you should keep in mind that Country Garden Services Holdings has net cash of CN¥12.4b, as well as more liquid assets than liabilities. The cherry on top was that in converted 68% of that EBIT to free cash flow, bringing in CN¥2.0b. So we are not troubled with Country Garden Services Holdings's debt use. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 1 warning sign for Country Garden Services Holdings 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.