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 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 Sanan Optoelectronics Co.,Ltd (SHSE:600703) makes use of debt. But is this debt a concern to shareholders?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

How Much Debt Does Sanan OptoelectronicsLtd Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Sanan OptoelectronicsLtd had CN¥11.6b of debt, an increase on CN¥9.68b, over one year. However, because it has a cash reserve of CN¥9.00b, its net debt is less, at about CN¥2.56b.

How Healthy Is Sanan OptoelectronicsLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Sanan OptoelectronicsLtd had liabilities of CN¥13.1b due within 12 months and liabilities of CN¥9.17b due beyond that. On the other hand, it had cash of CN¥9.00b and CN¥6.22b worth of receivables due within a year. So it has liabilities totalling CN¥7.04b more than its cash and near-term receivables, combined.

Of course, Sanan OptoelectronicsLtd has a market capitalization of CN¥63.0b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. 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 Sanan OptoelectronicsLtd 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.

In the last year Sanan OptoelectronicsLtd wasn't profitable at an EBIT level, but managed to grow its revenue by 18%, to CN¥16b. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Over the last twelve months Sanan OptoelectronicsLtd produced an earnings before interest and tax (EBIT) loss. Indeed, it lost CN¥891m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. On the bright side, we note that trailing twelve month EBIT is worse than the free cash flow of CN¥2.0b and the profit of CN¥441m. So if we focus on those metrics there seems to be a chance the company will manage its debt without much trouble. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 1 warning sign with Sanan OptoelectronicsLtd , and understanding them should be part of your investment process.

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.