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 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. As with many other companies Shenzhen Chipscreen Biosciences Co., Ltd. (SHSE:688321) makes use of debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Shenzhen Chipscreen Biosciences's Net Debt?

The image below, which you can click on for greater detail, shows that at March 2024 Shenzhen Chipscreen Biosciences had debt of CN¥1.12b, up from CN¥837.7m in one year. However, it does have CN¥620.1m in cash offsetting this, leading to net debt of about CN¥495.4m.

How Healthy Is Shenzhen Chipscreen Biosciences' Balance Sheet?

We can see from the most recent balance sheet that Shenzhen Chipscreen Biosciences had liabilities of CN¥352.4m falling due within a year, and liabilities of CN¥1.17b due beyond that. On the other hand, it had cash of CN¥620.1m and CN¥156.4m worth of receivables due within a year. So its liabilities total CN¥747.5m more than the combination of its cash and short-term receivables.

Of course, Shenzhen Chipscreen Biosciences has a market capitalization of CN¥8.07b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Shenzhen Chipscreen Biosciences can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Over 12 months, Shenzhen Chipscreen Biosciences reported revenue of CN¥548m, which is a gain of 3.0%, although it did not report any earnings before interest and tax. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

Caveat Emptor

Over the last twelve months Shenzhen Chipscreen Biosciences produced an earnings before interest and tax (EBIT) loss. Indeed, it lost CN¥169m 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. 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¥293m in negative free cash flow over the last twelve months. So to be blunt we think it 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. Case in point: We've spotted 2 warning signs for Shenzhen Chipscreen Biosciences you should be aware of.

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.