Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that Chengdu Bright Eye Hospital Co., Ltd. (SZSE:301239) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is Chengdu Bright Eye Hospital's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Chengdu Bright Eye Hospital had CN¥532.3m of debt, an increase on CN¥266.8m, over one year. But on the other hand it also has CN¥748.4m in cash, leading to a CN¥216.2m net cash position.

A Look At Chengdu Bright Eye Hospital's Liabilities

We can see from the most recent balance sheet that Chengdu Bright Eye Hospital had liabilities of CN¥774.6m falling due within a year, and liabilities of CN¥1.66b due beyond that. Offsetting this, it had CN¥748.4m in cash and CN¥213.1m in receivables that were due within 12 months. So it has liabilities totalling CN¥1.47b more than its cash and near-term receivables, combined.

Chengdu Bright Eye Hospital has a market capitalization of CN¥6.10b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Chengdu Bright Eye Hospital also has more cash than debt, so we're pretty confident it can manage its debt safely.

Notably, Chengdu Bright Eye Hospital's EBIT launched higher than Elon Musk, gaining a whopping 117% on last year. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Chengdu Bright Eye Hospital can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Chengdu Bright Eye Hospital 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. Considering the last three years, Chengdu Bright Eye Hospital actually recorded a cash outflow, overall. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Summing Up

While Chengdu Bright Eye Hospital does have more liabilities than liquid assets, it also has net cash of CN¥216.2m. And we liked the look of last year's 117% year-on-year EBIT growth. So we don't have any problem with Chengdu Bright Eye Hospital's use of debt. 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. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Chengdu Bright Eye Hospital you should know about.

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.