Warren Buffett famously said, 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that China Communications Services Corporation Limited (HKG:552) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. When we think about a company's use of debt, we first look at cash and debt together.

What Is China Communications Services's Debt?

The image below, which you can click on for greater detail, shows that China Communications Services had debt of CN¥878.8m at the end of June 2024, a reduction from CN¥972.8m over a year. But on the other hand it also has CN¥24.7b in cash, leading to a CN¥23.8b net cash position.

How Healthy Is China Communications Services' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that China Communications Services had liabilities of CN¥81.3b due within 12 months and liabilities of CN¥2.02b due beyond that. Offsetting this, it had CN¥24.7b in cash and CN¥61.0b in receivables that were due within 12 months. So it can boast CN¥2.29b more liquid assets than total liabilities.

This surplus suggests that China Communications Services has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that China Communications Services has more cash than debt is arguably a good indication that it can manage its debt safely.

Also good is that China Communications Services grew its EBIT at 16% over the last year, further increasing its ability to manage debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine China Communications Services'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, a company can only pay off debt with cold hard cash, not accounting profits. While China Communications Services 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. Over the last three years, China Communications Services actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that China Communications Services has net cash of CN¥23.8b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥3.0b, being 162% of its EBIT. So we don't think China Communications Services's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. 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 China Communications Services .

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.