Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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, Haidilao International Holding Ltd. (HKG:6862) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own 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, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is Haidilao International Holding's Debt?

You can click the graphic below for the historical numbers, but it shows that Haidilao International Holding had CN¥2.35b of debt in June 2024, down from CN¥3.15b, one year before. But it also has CN¥14.1b in cash to offset that, meaning it has CN¥11.7b net cash.

A Look At Haidilao International Holding's Liabilities

According to the last reported balance sheet, Haidilao International Holding had liabilities of CN¥10.4b due within 12 months, and liabilities of CN¥5.42b due beyond 12 months. Offsetting this, it had CN¥14.1b in cash and CN¥942.1m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥799.0m.

Having regard to Haidilao International Holding's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the CN¥88.0b company is short on cash, but still worth keeping an eye on the balance sheet. While it does have liabilities worth noting, Haidilao International Holding also has more cash than debt, so we're pretty confident it can manage its debt safely.

On top of that, Haidilao International Holding grew its EBIT by 34% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Haidilao International Holding 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. Haidilao International Holding 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, Haidilao International Holding actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

We could understand if investors are concerned about Haidilao International Holding's liabilities, but we can be reassured by the fact it has has net cash of CN¥11.7b. The cherry on top was that in converted 166% of that EBIT to free cash flow, bringing in CN¥7.0b. So is Haidilao International Holding'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. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 2 warning signs we've spotted with Haidilao International Holding .

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.