Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. As with many other companies China Tourism Group Duty Free Corporation Limited (SHSE:601888) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. 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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is China Tourism Group Duty Free's Debt?

The chart below, which you can click on for greater detail, shows that China Tourism Group Duty Free had CN¥3.77b in debt in September 2024; about the same as the year before. However, it does have CN¥32.0b in cash offsetting this, leading to net cash of CN¥28.2b.

A Look At China Tourism Group Duty Free's Liabilities

The latest balance sheet data shows that China Tourism Group Duty Free had liabilities of CN¥11.2b due within a year, and liabilities of CN¥4.44b falling due after that. On the other hand, it had cash of CN¥32.0b and CN¥900.7m worth of receivables due within a year. So it can boast CN¥17.3b more liquid assets than total liabilities.

This surplus suggests that China Tourism Group Duty Free has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, China Tourism Group Duty Free boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, China Tourism Group Duty Free saw its EBIT drop by 2.0% in the last twelve months. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. 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 China Tourism Group Duty Free's ability to maintain a healthy balance sheet going forward. 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 company can only pay off debt with cold hard cash, not accounting profits. China Tourism Group Duty Free 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. During the last three years, China Tourism Group Duty Free produced sturdy free cash flow equating to 73% 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 it is always sensible to investigate a company's debt, in this case China Tourism Group Duty Free has CN¥28.2b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 73% of that EBIT to free cash flow, bringing in CN¥5.4b. So we don't think China Tourism Group Duty Free's use of debt is risky. 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. For example - China Tourism Group Duty Free has 1 warning sign we think you should be aware of.

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.