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.' 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. We note that Mayinglong Pharmaceutical Group Co., Ltd. (SHSE:600993) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Mayinglong Pharmaceutical Group's Debt?

You can click the graphic below for the historical numbers, but it shows that Mayinglong Pharmaceutical Group had CN¥145.5m of debt in June 2024, down from CN¥462.8m, one year before. But on the other hand it also has CN¥3.15b in cash, leading to a CN¥3.00b net cash position.

How Strong Is Mayinglong Pharmaceutical Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Mayinglong Pharmaceutical Group had liabilities of CN¥937.4m due within 12 months and liabilities of CN¥273.9m due beyond that. Offsetting these obligations, it had cash of CN¥3.15b as well as receivables valued at CN¥578.6m due within 12 months. So it can boast CN¥2.51b more liquid assets than total liabilities.

This excess liquidity suggests that Mayinglong Pharmaceutical Group is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, Mayinglong Pharmaceutical Group boasts net cash, so it's fair to say it does not have a heavy debt load!

And we also note warmly that Mayinglong Pharmaceutical Group grew its EBIT by 11% last year, making its debt load easier to handle. 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 Mayinglong Pharmaceutical 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Mayinglong Pharmaceutical 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. Over the last three years, Mayinglong Pharmaceutical Group recorded free cash flow worth a fulsome 98% of its EBIT, which is stronger than we'd usually 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 Mayinglong Pharmaceutical Group has net cash of CN¥3.00b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥602m, being 98% of its EBIT. So is Mayinglong Pharmaceutical Group's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 1 warning sign for Mayinglong Pharmaceutical Group you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.