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, Tongyu Communication Inc. (SZSE:002792) does carry debt. But the real question is whether this debt is making the company risky.

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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 step when considering a company's debt levels is to consider its cash and debt together.

What Is Tongyu Communication's Net Debt?

The image below, which you can click on for greater detail, shows that Tongyu Communication had debt of CN¥31.5m at the end of September 2023, a reduction from CN¥46.4m over a year. However, its balance sheet shows it holds CN¥1.64b in cash, so it actually has CN¥1.61b net cash.

A Look At Tongyu Communication's Liabilities

Zooming in on the latest balance sheet data, we can see that Tongyu Communication had liabilities of CN¥741.0m due within 12 months and liabilities of CN¥43.8m due beyond that. Offsetting this, it had CN¥1.64b in cash and CN¥992.7m in receivables that were due within 12 months. So it actually has CN¥1.85b more liquid assets than total liabilities.

This excess liquidity is a great indication that Tongyu Communication's balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. Succinctly put, Tongyu Communication boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Tongyu Communication 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.

In the last year Tongyu Communication had a loss before interest and tax, and actually shrunk its revenue by 8.0%, to CN¥1.1b. We would much prefer see growth.

So How Risky Is Tongyu Communication?

While Tongyu Communication lost money on an earnings before interest and tax (EBIT) level, it actually booked a paper profit of CN¥70m. So when you consider it has net cash, along with the statutory profit, the stock probably isn't as risky as it might seem, at least in the short term. With mediocre revenue growth in the last year, we're don't find the investment opportunity particularly compelling. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for Tongyu Communication you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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.