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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Dawning Information Industry Co., Ltd. (SHSE:603019) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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.

What Is Dawning Information Industry's Debt?

The image below, which you can click on for greater detail, shows that Dawning Information Industry had debt of CN¥1.52b at the end of September 2024, a reduction from CN¥2.87b over a year. However, it does have CN¥3.43b in cash offsetting this, leading to net cash of CN¥1.90b.

How Healthy Is Dawning Information Industry's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Dawning Information Industry had liabilities of CN¥4.38b due within 12 months and liabilities of CN¥8.21b due beyond that. Offsetting these obligations, it had cash of CN¥3.43b as well as receivables valued at CN¥3.48b due within 12 months. So its liabilities total CN¥5.68b more than the combination of its cash and short-term receivables.

Since publicly traded Dawning Information Industry shares are worth a very impressive total of CN¥109.7b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Dawning Information Industry also has more cash than debt, so we're pretty confident it can manage its debt safely.

On the other hand, Dawning Information Industry's EBIT dived 11%, 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 it is future earnings, more than anything, that will determine Dawning Information Industry'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 company can only pay off debt with cold hard cash, not accounting profits. Dawning Information Industry 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. Over the last three years, Dawning Information Industry saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Dawning Information Industry has CN¥1.90b in net cash. So although we see some areas for improvement, we're not too worried about Dawning Information Industry's balance sheet. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Dawning Information Industry you should know about.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.