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.' 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. We note that Goneo Group Co., Ltd. (SHSE:603195) does have debt on its balance sheet. But is this debt a concern to shareholders?
When Is Debt A Problem?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.
How Much Debt Does Goneo Group Carry?
The image below, which you can click on for greater detail, shows that Goneo Group had debt of CN¥593.2m at the end of June 2024, a reduction from CN¥1.10b over a year. However, it does have CN¥13.5b in cash offsetting this, leading to net cash of CN¥12.9b.
A Look At Goneo Group's Liabilities
Zooming in on the latest balance sheet data, we can see that Goneo Group had liabilities of CN¥5.03b due within 12 months and liabilities of CN¥258.2m due beyond that. Offsetting these obligations, it had cash of CN¥13.5b as well as receivables valued at CN¥286.9m due within 12 months. So it can boast CN¥8.48b more liquid assets than total liabilities.
This surplus suggests that Goneo Group has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Goneo Group boasts net cash, so it's fair to say it does not have a heavy debt load!
Also good is that Goneo Group grew its EBIT at 18% over the last year, further increasing its ability to manage debt. 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 Goneo Group 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.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Goneo Group 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, Goneo Group generated free cash flow amounting to a very robust 83% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.
Summing Up
While we empathize with investors who find debt concerning, you should keep in mind that Goneo Group has net cash of CN¥12.9b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥3.5b, being 83% of its EBIT. So we don't think Goneo Group's use of debt is risky. 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. Case in point: We've spotted 2 warning signs for Goneo Group you should be aware of, and 1 of them makes us a bit uncomfortable.
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.
