David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. As with many other companies Sanan Optoelectronics Co.,Ltd (SHSE:600703) 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Sanan OptoelectronicsLtd

How Much Debt Does Sanan OptoelectronicsLtd Carry?

The image below, which you can click on for greater detail, shows that Sanan OptoelectronicsLtd had debt of CN¥8.70b at the end of September 2023, a reduction from CN¥11.6b over a year. However, it also had CN¥8.38b in cash, and so its net debt is CN¥314.1m.

A Look At Sanan OptoelectronicsLtd's Liabilities

According to the last reported balance sheet, Sanan OptoelectronicsLtd had liabilities of CN¥10.1b due within 12 months, and liabilities of CN¥8.51b due beyond 12 months. Offsetting these obligations, it had cash of CN¥8.38b as well as receivables valued at CN¥6.07b due within 12 months. So it has liabilities totalling CN¥4.14b more than its cash and near-term receivables, combined.

Since publicly traded Sanan OptoelectronicsLtd shares are worth a total of CN¥63.6b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Carrying virtually no net debt, Sanan OptoelectronicsLtd has a very light debt load indeed. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Sanan OptoelectronicsLtd can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

In the last year Sanan OptoelectronicsLtd wasn't profitable at an EBIT level, but managed to grow its revenue by 2.4%, to CN¥13b. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Importantly, Sanan OptoelectronicsLtd had an earnings before interest and tax (EBIT) loss over the last year. To be specific the EBIT loss came in at CN¥458m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled CN¥871m in negative free cash flow over the last twelve months. So to be blunt we think it 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. Be aware that Sanan OptoelectronicsLtd is showing 1 warning sign in our investment analysis , you should know about...

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.