Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Ningbo Sanxing Medical Electric Co.,Ltd. (SHSE:601567) 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. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Ningbo Sanxing Medical ElectricLtd's Net Debt?

The image below, which you can click on for greater detail, shows that at March 2024 Ningbo Sanxing Medical ElectricLtd had debt of CN¥2.72b, up from CN¥746.3m in one year. However, it does have CN¥5.24b in cash offsetting this, leading to net cash of CN¥2.53b.

How Healthy Is Ningbo Sanxing Medical ElectricLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Ningbo Sanxing Medical ElectricLtd had liabilities of CN¥6.44b due within 12 months and liabilities of CN¥3.57b due beyond that. Offsetting this, it had CN¥5.24b in cash and CN¥2.91b in receivables that were due within 12 months. So it has liabilities totalling CN¥1.86b more than its cash and near-term receivables, combined.

Since publicly traded Ningbo Sanxing Medical ElectricLtd shares are worth a total of CN¥49.4b, 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. Despite its noteworthy liabilities, Ningbo Sanxing Medical ElectricLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Ningbo Sanxing Medical ElectricLtd has boosted its EBIT by 51%, 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 future earnings, more than anything, that will determine Ningbo Sanxing Medical ElectricLtd's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Ningbo Sanxing Medical ElectricLtd 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, Ningbo Sanxing Medical ElectricLtd produced sturdy free cash flow equating to 61% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Ningbo Sanxing Medical ElectricLtd has CN¥2.53b in net cash. And we liked the look of last year's 51% year-on-year EBIT growth. So we don't think Ningbo Sanxing Medical ElectricLtd's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 1 warning sign for Ningbo Sanxing Medical ElectricLtd that you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com