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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Giant Network Group Co., Ltd. (SZSE:002558) makes use of debt. But the more important question is: how much risk is that debt creating?
What Risk Does Debt Bring?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Giant Network Group's Net Debt?
As you can see below, at the end of September 2023, Giant Network Group had CN¥630.0m of debt, up from CN¥603.0m a year ago. Click the image for more detail. But on the other hand it also has CN¥2.19b in cash, leading to a CN¥1.56b net cash position.
A Look At Giant Network Group's Liabilities
We can see from the most recent balance sheet that Giant Network Group had liabilities of CN¥1.46b falling due within a year, and liabilities of CN¥74.3m due beyond that. On the other hand, it had cash of CN¥2.19b and CN¥201.5m worth of receivables due within a year. So it actually has CN¥855.0m more liquid assets than total liabilities.
This short term liquidity is a sign that Giant Network Group could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Giant Network Group has more cash than debt is arguably a good indication that it can manage its debt safely.
But the other side of the story is that Giant Network Group saw its EBIT decline by 5.3% over the last year. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Giant Network Group'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. Giant Network Group 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, Giant Network Group 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 we empathize with investors who find debt concerning, you should keep in mind that Giant Network Group has net cash of CN¥1.56b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥883m, being 118% of its EBIT. So is Giant Network Group's debt a risk? It doesn't seem so to us. 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 Giant Network Group you should be aware of.
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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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.
