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. Importantly, Kingclean Electric Co.,Ltd (SHSE:603355) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

How Much Debt Does Kingclean ElectricLtd Carry?

The image below, which you can click on for greater detail, shows that at March 2024 Kingclean ElectricLtd had debt of CN¥6.17b, up from CN¥3.64b in one year. However, its balance sheet shows it holds CN¥6.76b in cash, so it actually has CN¥596.5m net cash.

A Look At Kingclean ElectricLtd's Liabilities

We can see from the most recent balance sheet that Kingclean ElectricLtd had liabilities of CN¥7.47b falling due within a year, and liabilities of CN¥1.61b due beyond that. On the other hand, it had cash of CN¥6.76b and CN¥2.27b worth of receivables due within a year. So these liquid assets roughly match the total liabilities.

This state of affairs indicates that Kingclean ElectricLtd's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the CN¥12.5b company is struggling for cash, we still think it's worth monitoring its balance sheet. Despite its noteworthy liabilities, Kingclean ElectricLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

And we also note warmly that Kingclean ElectricLtd grew its EBIT by 16% last year, making its debt load easier to handle. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Kingclean ElectricLtd's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Kingclean 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, Kingclean ElectricLtd produced sturdy free cash flow equating to 72% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Kingclean ElectricLtd has CN¥596.5m in net cash. The cherry on top was that in converted 72% of that EBIT to free cash flow, bringing in CN¥549m. So we don't think Kingclean ElectricLtd's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 1 warning sign we've spotted with Kingclean ElectricLtd .

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.

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