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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Shenzhen Sinexcel Electric Co.,Ltd. (SZSE:300693) makes use of debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

How Much Debt Does Shenzhen Sinexcel ElectricLtd Carry?

The image below, which you can click on for greater detail, shows that at March 2024 Shenzhen Sinexcel ElectricLtd had debt of CN¥240.1m, up from CN¥179.5m in one year. But on the other hand it also has CN¥702.1m in cash, leading to a CN¥462.0m net cash position.

How Healthy Is Shenzhen Sinexcel ElectricLtd's Balance Sheet?

According to the last reported balance sheet, Shenzhen Sinexcel ElectricLtd had liabilities of CN¥1.62b due within 12 months, and liabilities of CN¥129.0m due beyond 12 months. On the other hand, it had cash of CN¥702.1m and CN¥995.5m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥49.8m.

Having regard to Shenzhen Sinexcel ElectricLtd's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the CN¥8.90b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Shenzhen Sinexcel ElectricLtd also has more cash than debt, so we're pretty confident it can manage its debt safely.

On top of that, Shenzhen Sinexcel ElectricLtd grew its EBIT by 49% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Shenzhen Sinexcel ElectricLtd'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. While Shenzhen Sinexcel ElectricLtd 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. In the last three years, Shenzhen Sinexcel ElectricLtd's free cash flow amounted to 23% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

We could understand if investors are concerned about Shenzhen Sinexcel ElectricLtd's liabilities, but we can be reassured by the fact it has has net cash of CN¥462.0m. And it impressed us with its EBIT growth of 49% over the last year. So we don't think Shenzhen Sinexcel ElectricLtd's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 2 warning signs we've spotted with Shenzhen Sinexcel ElectricLtd (including 1 which is a bit unpleasant) .

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.