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 can see that Shenzhen Tellus Holding Co., Ltd. (SZSE:000025) does use debt in its business. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is Shenzhen Tellus Holding's Debt?

As you can see below, Shenzhen Tellus Holding had CN¥232.3m of debt, at March 2024, which is about the same as the year before. You can click the chart for greater detail. But it also has CN¥496.4m in cash to offset that, meaning it has CN¥264.1m net cash.

How Healthy Is Shenzhen Tellus Holding's Balance Sheet?

The latest balance sheet data shows that Shenzhen Tellus Holding had liabilities of CN¥582.6m due within a year, and liabilities of CN¥120.3m falling due after that. Offsetting these obligations, it had cash of CN¥496.4m as well as receivables valued at CN¥272.9m due within 12 months. So it can boast CN¥66.4m more liquid assets than total liabilities.

This state of affairs indicates that Shenzhen Tellus Holding's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the CN¥6.17b company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that Shenzhen Tellus Holding has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Shenzhen Tellus Holding has boosted its EBIT by 55%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Shenzhen Tellus Holding'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Shenzhen Tellus Holding 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. During the last three years, Shenzhen Tellus Holding burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Shenzhen Tellus Holding has net cash of CN¥264.1m, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 55% over the last year. So we are not troubled with Shenzhen Tellus Holding's debt use. 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. Be aware that Shenzhen Tellus Holding is showing 1 warning sign in our investment analysis , you should know about...

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.