David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 Nanjing Tanker Corporation (SHSE:601975) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is Nanjing Tanker's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Nanjing Tanker had CN¥1.37b of debt in June 2024, down from CN¥1.53b, one year before. However, its balance sheet shows it holds CN¥4.45b in cash, so it actually has CN¥3.07b net cash.

A Look At Nanjing Tanker's Liabilities

According to the last reported balance sheet, Nanjing Tanker had liabilities of CN¥1.05b due within 12 months, and liabilities of CN¥1.34b due beyond 12 months. On the other hand, it had cash of CN¥4.45b and CN¥842.7m worth of receivables due within a year. So it actually has CN¥2.90b more liquid assets than total liabilities.

This surplus suggests that Nanjing Tanker 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, Nanjing Tanker boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Nanjing Tanker saw its EBIT drop by 6.1% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Nanjing Tanker 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Nanjing Tanker 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, Nanjing Tanker produced sturdy free cash flow equating to 80% 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 investigate a company's debt, in this case Nanjing Tanker has CN¥3.07b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥1.9b, being 80% of its EBIT. So we don't think Nanjing Tanker's use of debt is risky. Over time, share prices tend to follow earnings per share, so if you're interested in Nanjing Tanker, you may well want to click here to check an interactive graph of its earnings per share history.

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.