David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 Shanghai Hanbell Precise Machinery Co., Ltd. (SZSE:002158) makes use of debt. But is this debt a concern to shareholders?

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. 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. When we think about a company's use of debt, we first look at cash and debt together.

How Much Debt Does Shanghai Hanbell Precise Machinery Carry?

The chart below, which you can click on for greater detail, shows that Shanghai Hanbell Precise Machinery had CN¥1.07b in debt in March 2024; about the same as the year before. However, its balance sheet shows it holds CN¥2.27b in cash, so it actually has CN¥1.20b net cash.

How Healthy Is Shanghai Hanbell Precise Machinery's Balance Sheet?

The latest balance sheet data shows that Shanghai Hanbell Precise Machinery had liabilities of CN¥2.53b due within a year, and liabilities of CN¥230.7m falling due after that. On the other hand, it had cash of CN¥2.27b and CN¥1.24b worth of receivables due within a year. So it actually has CN¥758.6m more liquid assets than total liabilities.

This short term liquidity is a sign that Shanghai Hanbell Precise Machinery could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Shanghai Hanbell Precise Machinery has more cash than debt is arguably a good indication that it can manage its debt safely.

On top of that, Shanghai Hanbell Precise Machinery grew its EBIT by 36% over the last twelve months, and that growth will make it easier to handle its debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Shanghai Hanbell Precise Machinery 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Shanghai Hanbell Precise Machinery may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Looking at the most recent three years, Shanghai Hanbell Precise Machinery recorded free cash flow of 50% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Shanghai Hanbell Precise Machinery has net cash of CN¥1.20b, as well as more liquid assets than liabilities. And we liked the look of last year's 36% year-on-year EBIT growth. So we don't think Shanghai Hanbell Precise Machinery's use of debt 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Shanghai Hanbell Precise Machinery you should know about.

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.