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.' 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. As with many other companies PDD Holdings Inc. (NASDAQ:PDD) makes use of debt. But is this debt a concern to shareholders?
What Risk Does Debt Bring?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. 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.
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What Is PDD Holdings's Net Debt?
As you can see below, PDD Holdings had CN¥5.18b of debt at September 2024, down from CN¥16.0b a year prior. However, it does have CN¥308.5b in cash offsetting this, leading to net cash of CN¥303.3b.
How Healthy Is PDD Holdings' Balance Sheet?
Zooming in on the latest balance sheet data, we can see that PDD Holdings had liabilities of CN¥180.0b due within 12 months and liabilities of CN¥8.29b due beyond that. Offsetting this, it had CN¥308.5b in cash and CN¥13.9b in receivables that were due within 12 months. So it actually has CN¥134.1b more liquid assets than total liabilities.
This surplus suggests that PDD Holdings has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, PDD Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!
Better yet, PDD Holdings grew its EBIT by 132% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if PDD Holdings can strengthen its balance sheet over time.
Summing Up
While we empathize with investors who find debt concerning, you should keep in mind that PDD Holdings has net cash of CN¥303.3b, as well as more liquid assets than liabilities. The cherry on top was that in converted 138% of that EBIT to free cash flow, bringing in CN¥129b. So is PDD Holdings's debt a risk? It doesn't seem so to me. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet.
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