Warren Buffett famously said, '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. We note that Shanghai Jahwa United Co., Ltd. (SHSE:600315) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

How Much Debt Does Shanghai Jahwa United Carry?

The image below, which you can click on for greater detail, shows that at March 2024 Shanghai Jahwa United had debt of CN¥652.8m, up from CN¥476.7m in one year. However, it does have CN¥3.84b in cash offsetting this, leading to net cash of CN¥3.19b.

How Healthy Is Shanghai Jahwa United's Balance Sheet?

We can see from the most recent balance sheet that Shanghai Jahwa United had liabilities of CN¥3.24b falling due within a year, and liabilities of CN¥669.5m due beyond that. Offsetting this, it had CN¥3.84b in cash and CN¥1.10b in receivables that were due within 12 months. So it actually has CN¥1.03b more liquid assets than total liabilities.

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

But the other side of the story is that Shanghai Jahwa United saw its EBIT decline by 5.7% over the last year. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Shanghai Jahwa United'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Shanghai Jahwa United 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. Over the last three years, Shanghai Jahwa United recorded free cash flow worth a fulsome 89% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While it is always sensible to investigate a company's debt, in this case Shanghai Jahwa United has CN¥3.19b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥118m, being 89% of its EBIT. So is Shanghai Jahwa United's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that Shanghai Jahwa United is showing 1 warning sign in our investment analysis , 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.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com