Is Bosideng International Holdings (HKG:3998) A Risky Investment?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Bosideng International Holdings Limited (HKG:3998) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Bosideng International Holdings

What Is Bosideng International Holdings's Net Debt?

The chart below, which you can click on for greater detail, shows that Bosideng International Holdings had CN¥2.32b in debt in September 2019; about the same as the year before. However, it does have CN¥4.18b in cash offsetting this, leading to net cash of CN¥1.87b.

SEHK:3998 Historical Debt April 8th 2020
SEHK:3998 Historical Debt April 8th 2020

How Healthy Is Bosideng International Holdings's Balance Sheet?

According to the last reported balance sheet, Bosideng International Holdings had liabilities of CN¥6.01b due within 12 months, and liabilities of CN¥434.2m due beyond 12 months. On the other hand, it had cash of CN¥4.18b and CN¥3.77b worth of receivables due within a year. So it can boast CN¥1.51b more liquid assets than total liabilities.

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

On top of that, Bosideng International Holdings grew its EBIT by 31% over the last twelve months, and that growth will make it easier to handle its debt. 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 Bosideng International Holdings'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 company can only pay off debt with cold hard cash, not accounting profits. While Bosideng International Holdings 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. Looking at the most recent three years, Bosideng International Holdings recorded free cash flow of 35% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Bosideng International Holdings has net cash of CN¥1.87b, as well as more liquid assets than liabilities. And we liked the look of last year's 31% year-on-year EBIT growth. So is Bosideng International Holdings'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. For instance, we've identified 2 warning signs for Bosideng International Holdings that you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.

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