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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Juewei Food Co., Ltd. (SHSE:603517) does carry debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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.

View our latest analysis for Juewei Food

What Is Juewei Food's Debt?

The image below, which you can click on for greater detail, shows that at September 2023 Juewei Food had debt of CN¥770.1m, up from CN¥615.0m in one year. But on the other hand it also has CN¥1.31b in cash, leading to a CN¥542.0m net cash position.

How Strong Is Juewei Food's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Juewei Food had liabilities of CN¥1.91b due within 12 months and liabilities of CN¥314.6m due beyond that. On the other hand, it had cash of CN¥1.31b and CN¥267.4m worth of receivables due within a year. So its liabilities total CN¥648.1m more than the combination of its cash and short-term receivables.

Since publicly traded Juewei Food shares are worth a total of CN¥15.1b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Juewei Food also has more cash than debt, so we're pretty confident it can manage its debt safely.

Also positive, Juewei Food grew its EBIT by 23% in the last year, and that should make it easier to pay down debt, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Juewei Food's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Juewei Food may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Looking at the most recent three years, Juewei Food recorded free cash flow of 34% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Juewei Food has CN¥542.0m in net cash. And we liked the look of last year's 23% year-on-year EBIT growth. So we don't think Juewei Food's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Juewei Food is showing 2 warning signs in our investment analysis , 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.

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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.