Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Sichuan Hongda Co.,Ltd (SHSE:600331) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Sichuan HongdaLtd

What Is Sichuan HongdaLtd's Net Debt?

As you can see below, Sichuan HongdaLtd had CN¥715.7m of debt at September 2023, down from CN¥748.9m a year prior. However, it does have CN¥169.5m in cash offsetting this, leading to net debt of about CN¥546.1m.

How Healthy Is Sichuan HongdaLtd's Balance Sheet?

The latest balance sheet data shows that Sichuan HongdaLtd had liabilities of CN¥1.68b due within a year, and liabilities of CN¥22.7m falling due after that. Offsetting these obligations, it had cash of CN¥169.5m as well as receivables valued at CN¥202.8m due within 12 months. So its liabilities total CN¥1.33b more than the combination of its cash and short-term receivables.

Since publicly traded Sichuan HongdaLtd shares are worth a total of CN¥11.9b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Sichuan HongdaLtd will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Over 12 months, Sichuan HongdaLtd reported revenue of CN¥3.2b, which is a gain of 13%, although it did not report any earnings before interest and tax. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Importantly, Sichuan HongdaLtd had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost CN¥15m at the EBIT level. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. We would feel better if it turned its trailing twelve month loss of CN¥105m into a profit. So to be blunt we do think it is risky. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Sichuan HongdaLtd you should know about.

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.

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.