Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Guangdong Meiyanjixiang Hydropower Co.,Ltd. (SHSE:600868) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

How Much Debt Does Guangdong Meiyanjixiang HydropowerLtd Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2023 Guangdong Meiyanjixiang HydropowerLtd had CN¥133.0m of debt, an increase on CN¥121.6m, over one year. But it also has CN¥321.5m in cash to offset that, meaning it has CN¥188.5m net cash.

How Strong Is Guangdong Meiyanjixiang HydropowerLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Guangdong Meiyanjixiang HydropowerLtd had liabilities of CN¥273.6m due within 12 months and liabilities of CN¥129.5m due beyond that. Offsetting this, it had CN¥321.5m in cash and CN¥493.8m in receivables that were due within 12 months. So it can boast CN¥412.2m more liquid assets than total liabilities.

This surplus suggests that Guangdong Meiyanjixiang HydropowerLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Guangdong Meiyanjixiang HydropowerLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact Guangdong Meiyanjixiang HydropowerLtd's saving grace is its low debt levels, because its EBIT has tanked 42% in the last twelve months. 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 you can't view debt in total isolation; since Guangdong Meiyanjixiang HydropowerLtd will need earnings to service that debt. 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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Guangdong Meiyanjixiang HydropowerLtd may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Looking at the most recent three years, Guangdong Meiyanjixiang HydropowerLtd recorded free cash flow of 46% of its EBIT, which is weaker 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 Guangdong Meiyanjixiang HydropowerLtd has net cash of CN¥188.5m, as well as more liquid assets than liabilities. So we don't have any problem with Guangdong Meiyanjixiang HydropowerLtd's use of debt. Over time, share prices tend to follow earnings per share, so if you're interested in Guangdong Meiyanjixiang HydropowerLtd, you may well want to click here to check an interactive graph of its earnings per share history.

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.