The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. As with many other companies Hunan Silver Co.,Ltd. (SZSE:002716) makes use of debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

How Much Debt Does Hunan SilverLtd Carry?

As you can see below, Hunan SilverLtd had CN¥335.5m of debt at March 2024, down from CN¥690.5m a year prior. But it also has CN¥491.7m in cash to offset that, meaning it has CN¥156.2m net cash.

How Healthy Is Hunan SilverLtd's Balance Sheet?

According to the last reported balance sheet, Hunan SilverLtd had liabilities of CN¥1.85b due within 12 months, and liabilities of CN¥964.3m due beyond 12 months. On the other hand, it had cash of CN¥491.7m and CN¥46.7m worth of receivables due within a year. So it has liabilities totalling CN¥2.28b more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Hunan SilverLtd has a market capitalization of CN¥8.27b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. Despite its noteworthy liabilities, Hunan SilverLtd boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But it is Hunan SilverLtd's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Over 12 months, Hunan SilverLtd reported revenue of CN¥5.6b, which is a gain of 59%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.

So How Risky Is Hunan SilverLtd?

While Hunan SilverLtd lost money on an earnings before interest and tax (EBIT) level, it actually generated positive free cash flow CN¥52m. So although it is loss-making, it doesn't seem to have too much near-term balance sheet risk, keeping in mind the net cash. The good news for Hunan SilverLtd shareholders is that its revenue growth is strong, making it easier to raise capital if need be. But we still think it's somewhat risky. 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 Hunan SilverLtd , and understanding them should be part of your investment process.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.