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. As with many other companies Yunnan Lincang Xinyuan Germanium Industry Co.,LTD (SZSE:002428) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Yunnan Lincang Xinyuan Germanium IndustryLTD's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2023 Yunnan Lincang Xinyuan Germanium IndustryLTD had CN¥658.7m of debt, an increase on CN¥600.9m, over one year. However, it does have CN¥143.1m in cash offsetting this, leading to net debt of about CN¥515.6m.

How Strong Is Yunnan Lincang Xinyuan Germanium IndustryLTD's Balance Sheet?

According to the last reported balance sheet, Yunnan Lincang Xinyuan Germanium IndustryLTD had liabilities of CN¥646.1m due within 12 months, and liabilities of CN¥406.4m due beyond 12 months. Offsetting this, it had CN¥143.1m in cash and CN¥238.9m in receivables that were due within 12 months. So it has liabilities totalling CN¥670.5m more than its cash and near-term receivables, combined.

Given Yunnan Lincang Xinyuan Germanium IndustryLTD has a market capitalization of CN¥5.11b, it's hard to believe these liabilities pose much 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 it is future earnings, more than anything, that will determine Yunnan Lincang Xinyuan Germanium IndustryLTD's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Over 12 months, Yunnan Lincang Xinyuan Germanium IndustryLTD saw its revenue hold pretty steady, and it did not report positive earnings before interest and tax. While that hardly impresses, its not too bad either.

Caveat Emptor

Over the last twelve months Yunnan Lincang Xinyuan Germanium IndustryLTD produced an earnings before interest and tax (EBIT) loss. To be specific the EBIT loss came in at CN¥102m. 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. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. Another cause for caution is that is bled CN¥64m in negative free cash flow over the last twelve months. So to be blunt we think it is risky. When we look at a riskier company, we like to check how their profits (or losses) are trending over time. Today, we're providing readers this interactive graph showing how Yunnan Lincang Xinyuan Germanium IndustryLTD's profit, revenue, and operating cashflow have changed over the last few years.

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.

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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.