David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 Hubei Jumpcan Pharmaceutical Co., Ltd. (SHSE:600566) does use debt in its business. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. 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 step when considering a company's debt levels is to consider its cash and debt together.

How Much Debt Does Hubei Jumpcan Pharmaceutical Carry?

As you can see below, at the end of December 2023, Hubei Jumpcan Pharmaceutical had CN¥1.04b of debt, up from CN¥400.0m a year ago. Click the image for more detail. But it also has CN¥10.9b in cash to offset that, meaning it has CN¥9.87b net cash.

A Look At Hubei Jumpcan Pharmaceutical's Liabilities

The latest balance sheet data shows that Hubei Jumpcan Pharmaceutical had liabilities of CN¥4.59b due within a year, and liabilities of CN¥183.0m falling due after that. Offsetting these obligations, it had cash of CN¥10.9b as well as receivables valued at CN¥2.80b due within 12 months. So it actually has CN¥8.94b more liquid assets than total liabilities.

It's good to see that Hubei Jumpcan Pharmaceutical has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Succinctly put, Hubei Jumpcan Pharmaceutical boasts net cash, so it's fair to say it does not have a heavy debt load!

Also positive, Hubei Jumpcan Pharmaceutical grew its EBIT by 29% in the last year, and that should make it easier to pay down debt, going forward. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Hubei Jumpcan 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Hubei Jumpcan Pharmaceutical 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. Happily for any shareholders, Hubei Jumpcan 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 Hubei Jumpcan Pharmaceutical has CN¥9.87b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 105% of that EBIT to free cash flow, bringing in CN¥3.2b. When it comes to Hubei Jumpcan Pharmaceutical's debt, we sufficiently relaxed that our mind turns to the jacuzzi. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Hubei Jumpcan Pharmaceutical you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.