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.' 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 Weifu High-Technology Group Co., Ltd. (SZSE:000581) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

What Is Weifu High-Technology Group's Net Debt?

The image below, which you can click on for greater detail, shows that Weifu High-Technology Group had debt of CN¥845.9m at the end of March 2024, a reduction from CN¥4.01b over a year. But on the other hand it also has CN¥3.78b in cash, leading to a CN¥2.94b net cash position.

A Look At Weifu High-Technology Group's Liabilities

Zooming in on the latest balance sheet data, we can see that Weifu High-Technology Group had liabilities of CN¥6.74b due within 12 months and liabilities of CN¥733.3m due beyond that. Offsetting this, it had CN¥3.78b in cash and CN¥7.55b in receivables that were due within 12 months. So it can boast CN¥3.86b more liquid assets than total liabilities.

This surplus suggests that Weifu High-Technology Group is using debt in a way that is appears to be both safe and conservative. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Weifu High-Technology Group has more cash than debt is arguably a good indication that it can manage its debt safely.

Although Weifu High-Technology Group made a loss at the EBIT level, last year, it was also good to see that it generated CN¥369m in EBIT over the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Weifu High-Technology Group's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Weifu High-Technology Group 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. Considering the last year, Weifu High-Technology Group actually recorded a cash outflow, overall. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Weifu High-Technology Group has net cash of CN¥2.94b, as well as more liquid assets than liabilities. So we don't have any problem with Weifu High-Technology Group's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that Weifu High-Technology Group is showing 2 warning signs in our investment analysis , and 1 of those doesn't sit too well with us...

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.

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