Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Asymchem Laboratories (Tianjin) Co., Ltd. (SZSE:002821) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is Asymchem Laboratories (Tianjin)'s Net Debt?

The image below, which you can click on for greater detail, shows that at March 2024 Asymchem Laboratories (Tianjin) had debt of CN¥12.2m, up from none in one year. However, its balance sheet shows it holds CN¥8.98b in cash, so it actually has CN¥8.97b net cash.

How Healthy Is Asymchem Laboratories (Tianjin)'s Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Asymchem Laboratories (Tianjin) had liabilities of CN¥1.77b due within 12 months and liabilities of CN¥466.2m due beyond that. On the other hand, it had cash of CN¥8.98b and CN¥1.85b worth of receivables due within a year. So it actually has CN¥8.59b more liquid assets than total liabilities.

This surplus strongly suggests that Asymchem Laboratories (Tianjin) has a rock-solid balance sheet (and the debt is of no concern whatsoever). With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Simply put, the fact that Asymchem Laboratories (Tianjin) has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Asymchem Laboratories (Tianjin)'s saving grace is its low debt levels, because its EBIT has tanked 49% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Asymchem Laboratories (Tianjin)'s ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Asymchem Laboratories (Tianjin) 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. In the last three years, Asymchem Laboratories (Tianjin)'s free cash flow amounted to 34% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Asymchem Laboratories (Tianjin) has net cash of CN¥8.97b, as well as more liquid assets than liabilities. So we are not troubled with Asymchem Laboratories (Tianjin)'s debt use. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. We've identified 1 warning sign with Asymchem Laboratories (Tianjin) , and understanding them should be part of your investment process.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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.