Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. As with many other companies TRS Information Technology Co., Ltd. (SZSE:300229) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

How Much Debt Does TRS Information Technology Carry?

The image below, which you can click on for greater detail, shows that at March 2024 TRS Information Technology had debt of CN¥30.6m, up from CN¥10.0m in one year. However, it does have CN¥478.0m in cash offsetting this, leading to net cash of CN¥447.4m.

A Look At TRS Information Technology's Liabilities

Zooming in on the latest balance sheet data, we can see that TRS Information Technology had liabilities of CN¥304.4m due within 12 months and liabilities of CN¥20.2m due beyond that. On the other hand, it had cash of CN¥478.0m and CN¥693.1m worth of receivables due within a year. So it actually has CN¥846.5m more liquid assets than total liabilities.

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

The modesty of its debt load may become crucial for TRS Information Technology if management cannot prevent a repeat of the 93% cut to EBIT over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. 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 TRS Information Technology 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While TRS Information 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, TRS Information Technology burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that TRS Information Technology has net cash of CN¥447.4m, as well as more liquid assets than liabilities. So while TRS Information Technology does not have a great balance sheet, it's certainly not too bad. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Be aware that TRS Information Technology is showing 2 warning signs in our investment analysis , you should know about...

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.

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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.