Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. As with many other companies Chengdu Sino-Microelectronics Tech. Co., Ltd. (SHSE:688709) makes use of debt. But the more important question is: how much risk is that debt creating?

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. 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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

How Much Debt Does Chengdu Sino-Microelectronics Tech Carry?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Chengdu Sino-Microelectronics Tech had CN¥689.6m of debt, an increase on CN¥578.9m, over one year. However, it does have CN¥1.58b in cash offsetting this, leading to net cash of CN¥889.1m.

A Look At Chengdu Sino-Microelectronics Tech's Liabilities

The latest balance sheet data shows that Chengdu Sino-Microelectronics Tech had liabilities of CN¥690.9m due within a year, and liabilities of CN¥294.7m falling due after that. Offsetting this, it had CN¥1.58b in cash and CN¥1.17b in receivables that were due within 12 months. So it can boast CN¥1.76b more liquid assets than total liabilities.

This surplus suggests that Chengdu Sino-Microelectronics Tech is using debt in a way that is appears to be both safe and conservative. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Succinctly put, Chengdu Sino-Microelectronics Tech boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Chengdu Sino-Microelectronics Tech's EBIT dived 20%, over the last year. If that rate of decline in earnings continues, the company could find itself in a tight spot. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Chengdu Sino-Microelectronics Tech can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Chengdu Sino-Microelectronics Tech 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. Over the last three years, Chengdu Sino-Microelectronics Tech saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing Up

While it is always sensible to investigate a company's debt, in this case Chengdu Sino-Microelectronics Tech has CN¥889.1m in net cash and a decent-looking balance sheet. So we are not troubled with Chengdu Sino-Microelectronics Tech's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Chengdu Sino-Microelectronics Tech 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.