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, Sichuan Biokin Pharmaceutical Co.,Ltd. (SHSE:688506) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Sichuan Biokin PharmaceuticalLtd's Debt?

As you can see below, at the end of March 2024, Sichuan Biokin PharmaceuticalLtd had CN¥748.8m of debt, up from CN¥479.3m a year ago. Click the image for more detail. However, its balance sheet shows it holds CN¥5.83b in cash, so it actually has CN¥5.08b net cash.

How Healthy Is Sichuan Biokin PharmaceuticalLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Sichuan Biokin PharmaceuticalLtd had liabilities of CN¥1.62b due within 12 months and liabilities of CN¥99.9m due beyond that. Offsetting these obligations, it had cash of CN¥5.83b as well as receivables valued at CN¥136.4m due within 12 months. So it actually has CN¥4.25b more liquid assets than total liabilities.

This surplus suggests that Sichuan Biokin PharmaceuticalLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Sichuan Biokin PharmaceuticalLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

It was also good to see that despite losing money on the EBIT line last year, Sichuan Biokin PharmaceuticalLtd turned things around in the last 12 months, delivering and EBIT of CN¥4.4b. 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 Sichuan Biokin PharmaceuticalLtd'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Sichuan Biokin PharmaceuticalLtd has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, Sichuan Biokin PharmaceuticalLtd actually produced more free cash flow than EBIT over the last year. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Sichuan Biokin PharmaceuticalLtd has net cash of CN¥5.08b, as well as more liquid assets than liabilities. The cherry on top was that in converted 110% of that EBIT to free cash flow, bringing in CN¥4.9b. So we don't think Sichuan Biokin PharmaceuticalLtd's use of debt is risky. 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. For example - Sichuan Biokin PharmaceuticalLtd has 1 warning sign we think you should be aware of.

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.