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 Midea Group Co., Ltd. (SZSE:000333) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

How Much Debt Does Midea Group Carry?

The image below, which you can click on for greater detail, shows that at September 2024 Midea Group had debt of CN¥80.7b, up from CN¥74.9b in one year. However, its balance sheet shows it holds CN¥167.9b in cash, so it actually has CN¥87.1b net cash.

A Look At Midea Group's Liabilities

We can see from the most recent balance sheet that Midea Group had liabilities of CN¥322.0b falling due within a year, and liabilities of CN¥24.8b due beyond that. Offsetting this, it had CN¥167.9b in cash and CN¥75.6b in receivables that were due within 12 months. So it has liabilities totalling CN¥103.4b more than its cash and near-term receivables, combined.

Since publicly traded Midea Group shares are worth a very impressive total of CN¥539.2b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Midea Group also has more cash than debt, so we're pretty confident it can manage its debt safely.

Fortunately, Midea Group grew its EBIT by 8.9% in the last year, making that debt load look even more manageable. 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 Midea 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. While Midea 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. Happily for any shareholders, Midea 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 Midea Group does have more liabilities than liquid assets, it also has net cash of CN¥87.1b. The cherry on top was that in converted 138% of that EBIT to free cash flow, bringing in CN¥66b. So is Midea Group's debt a risk? It doesn't seem so to us. 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. To that end, you should be aware of the 1 warning sign we've spotted with Midea Group .

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.