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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Hunan Changyuan Lico Co.,Ltd. (SHSE:688779) makes use of debt. But is this debt a concern to shareholders?

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. If things get really bad, the lenders can take control of the business. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is Hunan Changyuan LicoLtd's Debt?

The chart below, which you can click on for greater detail, shows that Hunan Changyuan LicoLtd had CN¥3.65b in debt in March 2024; about the same as the year before. However, it does have CN¥2.52b in cash offsetting this, leading to net debt of about CN¥1.13b.

A Look At Hunan Changyuan LicoLtd's Liabilities

We can see from the most recent balance sheet that Hunan Changyuan LicoLtd had liabilities of CN¥2.65b falling due within a year, and liabilities of CN¥3.34b due beyond that. Offsetting this, it had CN¥2.52b in cash and CN¥4.16b in receivables that were due within 12 months. So it actually has CN¥688.0m more liquid assets than total liabilities.

This surplus suggests that Hunan Changyuan LicoLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Hunan Changyuan LicoLtd 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.

In the last year Hunan Changyuan LicoLtd had a loss before interest and tax, and actually shrunk its revenue by 40%, to CN¥9.9b. That makes us nervous, to say the least.

Caveat Emptor

Not only did Hunan Changyuan LicoLtd's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). To be specific the EBIT loss came in at CN¥173m. On a more positive note, the company does have liquid assets, so it has a bit of time to improve its operations before the debt becomes an acute problem. Still, we'd be more encouraged to study the business in depth if it already had some free cash flow. This one is a bit too risky for our liking. When we look at a riskier company, we like to check how their profits (or losses) are trending over time. Today, we're providing readers this interactive graph showing how Hunan Changyuan LicoLtd's profit, revenue, and operating cashflow have changed over the last few years.

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.

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