The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies NavInfo Co., Ltd. (SZSE:002405) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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, 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 step when considering a company's debt levels is to consider its cash and debt together.

How Much Debt Does NavInfo Carry?

You can click the graphic below for the historical numbers, but it shows that as of June 2024 NavInfo had CN¥472.6m of debt, an increase on CN¥168.6m, over one year. But it also has CN¥3.11b in cash to offset that, meaning it has CN¥2.64b net cash.

How Healthy Is NavInfo's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that NavInfo had liabilities of CN¥2.26b due within 12 months and liabilities of CN¥219.7m due beyond that. Offsetting this, it had CN¥3.11b in cash and CN¥1.02b in receivables that were due within 12 months. So it actually has CN¥1.65b more liquid assets than total liabilities.

This surplus suggests that NavInfo has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that NavInfo has more cash than debt is arguably a good indication that it can manage its debt safely. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if NavInfo can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Over 12 months, NavInfo made a loss at the EBIT level, and saw its revenue drop to CN¥3.3b, which is a fall of 5.5%. We would much prefer see growth.

So How Risky Is NavInfo?

We have no doubt that loss making companies are, in general, riskier than profitable ones. And in the last year NavInfo had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of CN¥379m and booked a CN¥1.4b accounting loss. But the saving grace is the CN¥2.64b on the balance sheet. That kitty means the company can keep spending for growth for at least two years, at current rates. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. 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. We've identified 2 warning signs with NavInfo , and understanding them should be part of your investment process.

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.

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.