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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, YOUNGY Co., Ltd. (SZSE:002192) does carry debt. But is this debt a concern to shareholders?
What Risk Does Debt Bring?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.
What Is YOUNGY's Debt?
You can click the graphic below for the historical numbers, but it shows that as of June 2024 YOUNGY had CN¥95.1m of debt, an increase on CN¥66.0m, over one year. But it also has CN¥1.49b in cash to offset that, meaning it has CN¥1.39b net cash.
How Healthy Is YOUNGY's Balance Sheet?
The latest balance sheet data shows that YOUNGY had liabilities of CN¥630.9m due within a year, and liabilities of CN¥317.8m falling due after that. Offsetting these obligations, it had cash of CN¥1.49b as well as receivables valued at CN¥192.3m due within 12 months. So it can boast CN¥731.1m more liquid assets than total liabilities.
This surplus suggests that YOUNGY has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that YOUNGY has more cash than debt is arguably a good indication that it can manage its debt safely.
In fact YOUNGY's saving grace is its low debt levels, because its EBIT has tanked 89% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if YOUNGY can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While YOUNGY 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. During the last three years, YOUNGY produced sturdy free cash flow equating to 71% of its EBIT, about what we'd expect. 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 YOUNGY has net cash of CN¥1.39b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of -CN¥60m, being 71% of its EBIT. So we are not troubled with YOUNGY's debt use. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. We've identified 2 warning signs with YOUNGY , and understanding them should be part of your investment process.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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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.