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 note that Hangzhou Hikvision Digital Technology Co., Ltd. (SZSE:002415) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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 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 Hangzhou Hikvision Digital Technology's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Hangzhou Hikvision Digital Technology had CN¥16.5b of debt, an increase on CN¥14.2b, over one year. But it also has CN¥44.1b in cash to offset that, meaning it has CN¥27.6b net cash.

A Look At Hangzhou Hikvision Digital Technology's Liabilities

The latest balance sheet data shows that Hangzhou Hikvision Digital Technology had liabilities of CN¥38.4b due within a year, and liabilities of CN¥9.24b falling due after that. Offsetting these obligations, it had cash of CN¥44.1b as well as receivables valued at CN¥40.8b due within 12 months. So it actually has CN¥37.3b more liquid assets than total liabilities.

This surplus suggests that Hangzhou Hikvision Digital Technology has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Hangzhou Hikvision Digital Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

Another good sign is that Hangzhou Hikvision Digital Technology has been able to increase its EBIT by 21% in twelve months, making it easier to pay down debt. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Hangzhou Hikvision Digital Technology'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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Hangzhou Hikvision Digital Technology 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. During the last three years, Hangzhou Hikvision Digital Technology produced sturdy free cash flow equating to 58% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Hangzhou Hikvision Digital Technology has net cash of CN¥27.6b, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 21% over the last year. So we don't think Hangzhou Hikvision Digital Technology's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 1 warning sign we've spotted with Hangzhou Hikvision Digital Technology .

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