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. Importantly, WuXi Biologics (Cayman) Inc. (HKG:2269) does carry debt. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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 WuXi Biologics (Cayman)'s Net Debt?
You can click the graphic below for the historical numbers, but it shows that as of December 2019 WuXi Biologics (Cayman) had CN¥1.90b of debt, an increase on none, over one year. But it also has CN¥6.75b in cash to offset that, meaning it has CN¥4.85b net cash.
How Healthy Is WuXi Biologics (Cayman)'s Balance Sheet?
Zooming in on the latest balance sheet data, we can see that WuXi Biologics (Cayman) had liabilities of CN¥2.87b due within 12 months and liabilities of CN¥1.83b due beyond that. Offsetting this, it had CN¥6.75b in cash and CN¥1.67b in receivables that were due within 12 months. So it actually has CN¥3.71b more liquid assets than total liabilities.
This short term liquidity is a sign that WuXi Biologics (Cayman) could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, WuXi Biologics (Cayman) boasts net cash, so it's fair to say it does not have a heavy debt load!
In addition to that, we're happy to report that WuXi Biologics (Cayman) has boosted its EBIT by 81%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if WuXi Biologics (Cayman) 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. While WuXi Biologics (Cayman) 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. During the last three years, WuXi Biologics (Cayman) burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.
While it is always sensible to investigate a company's debt, in this case WuXi Biologics (Cayman) has CN¥4.85b in net cash and a decent-looking balance sheet. And we liked the look of last year's 81% year-on-year EBIT growth. So we don't have any problem with WuXi Biologics (Cayman)'s use of debt. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 2 warning signs we've spotted with WuXi Biologics (Cayman) (including 1 which is is a bit unpleasant) .
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.
If you spot an error that warrants correction, please contact the editor at email@example.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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