David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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, PDD Holdings Inc. (NASDAQ:PDD) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. 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.

Check out our latest analysis for PDD Holdings

How Much Debt Does PDD Holdings Carry?

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 Strong Is PDD Holdings' Balance Sheet?

We can see from the most recent balance sheet that PDD Holdings had liabilities of CN¥180.0b falling due within a year, and liabilities of CN¥8.29b due beyond that. On the other hand, it had cash of CN¥308.5b and CN¥13.9b worth of receivables due within a year. So it can boast 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. Simply put, the fact that PDD Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Even more impressive was the fact that PDD Holdings grew its EBIT by 132% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if PDD Holdings 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While PDD 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. Over the last three years, PDD Holdings actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

While it is always sensible to investigate a company's debt, in this case PDD Holdings has CN¥303.3b in net cash and a decent-looking balance sheet. 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 us. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of PDD Holdings's earnings per share history for free.

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.

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.