These 4 metrics indicate that Zhongzhi Pharmaceutical Holdings (HKG: 3737) is using debt reasonably well
Warren Buffett said: “Volatility is far from synonymous with risk”. So it can be obvious that you need to consider debt, when you think about how risky a given stock is, because too much debt can sink a business. Like many other companies Zhongzhi Pharmaceutical Holdings Limited (HKG: 3737) uses debt. But the real question is whether this debt makes the business risky.
Why Does Debt Bring Risk?
Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, then it exists at their mercy. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. Of course, many companies use debt to finance their growth without negative consequences. The first step in examining a company’s debt levels is to consider its cash flow and debt together.
Check out our latest review for Zhongzhi Pharmaceutical Holdings
What is the debt of Zhongzhi Pharmaceutical Holdings?
As you can see below, at the end of December 2020, Zhongzhi Pharmaceutical Holdings had CN 78.9 million in debt, up from CN 31.4 million a year ago. Click on the image for more details. However, his balance sheet shows that he has CN ¥ 311.0 million in cash, so he actually has CN ¥ 232.1 million in net cash.
A look at the liabilities of Zhongzhi Pharmaceutical Holdings
The latest balance sheet data shows Zhongzhi Pharmaceutical Holdings had CN 485.5 million liabilities due within one year, and CN liabilities of CN 113.3 million due after that. In return, he had CN 311.0 million in cash and CN 285.3 million in receivables due within 12 months. These liquid assets therefore correspond roughly to the total liabilities.
This fact indicates that Zhongzhi Pharmaceutical Holdings’ balance sheet looks quite strong, as its total liabilities roughly equal its liquid assets. So while it’s hard to imagine the CN 996.5 million company struggling to find the money, we still think it’s worth watching its balance sheet. While he has some liabilities to note, Zhongzhi Pharmaceutical Holdings also has more cash than debt, so we’re pretty confident that he can handle his debt safely.
The good news is that Zhongzhi Pharmaceutical Holdings increased its EBIT by 8.3% year-over-year, which should allay concerns about debt repayment. The balance sheet is clearly the area you need to focus on when analyzing debt. But it is the profits of Zhongzhi Pharmaceutical Holdings that will influence the balance sheet in the future. So if you want to know more about its profits, it may be worth checking out this chart of its long term profit trend.
Finally, a business can only pay off its debts with hard cash, not with book profits. Although Zhongzhi Pharmaceutical Holdings has net cash on its balance sheet, it is still worth examining its ability to convert earnings before interest and taxes (EBIT) into free cash flow, to help us understand how fast it is building. (or erode) that cash balance. Over the past three years, Zhongzhi Pharmaceutical Holdings has recorded free cash flow of 22% of its EBIT, which is lower than expected. It’s not great when it comes to paying down debt.
We could understand if investors are concerned about Zhongzhi Pharmaceutical Holdings’ liabilities, but we can be reassured that it has net cash of CNN 232.1 million. In addition, it has increased its EBIT by 8.3% over the past twelve months. So we have no problem with the use of debt by Zhongzhi Pharmaceutical Holdings. When analyzing debt levels, the balance sheet is the obvious starting point. However, not all investment risks lie on the balance sheet – far from it. These risks can be difficult to spot. Every business has them, and we’ve spotted 2 warning signs for Zhongzhi Pharmaceutical Holdings (1 of which is potentially serious!) that you should be aware of.
At the end of the day, it’s often best to focus on businesses with no net debt. You can access our special list of these companies (all with a history of profit growth). It’s free.
When trading stocks or any other investment, use the platform seen by many as the professionals’ gateway to the global market, Interactive brokers. You get the cheapest * trading on stocks, options, futures, forex, bonds and funds from around the world from a single integrated account.
This Simply Wall St article is general in nature. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in any of the stocks mentioned.
*Interactive Brokers Ranked Least Expensive Broker By StockBrokers.com Online Annual Review 2020
Do you have any feedback on this item? Are you worried about the content? Get in touch with us directly. You can also send an email to the editorial team (at) simplywallst.com.