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.' 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 Yibin Paper Industry Co., Ltd. (SHSE:600793) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Yibin Paper Industry's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Yibin Paper Industry had CN¥1.46b of debt, an increase on CN¥76.6m, over one year. However, it does have CN¥92.9m in cash offsetting this, leading to net debt of about CN¥1.37b.

How Strong Is Yibin Paper Industry's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Yibin Paper Industry had liabilities of CN¥464.2m due within 12 months and liabilities of CN¥1.48b due beyond that. Offsetting these obligations, it had cash of CN¥92.9m as well as receivables valued at CN¥30.7m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥1.82b.

While this might seem like a lot, it is not so bad since Yibin Paper Industry has a market capitalization of CN¥4.18b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Yibin Paper Industry's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Over 12 months, Yibin Paper Industry made a loss at the EBIT level, and saw its revenue drop to CN¥1.5b, which is a fall of 15%. We would much prefer see growth.

Caveat Emptor

While Yibin Paper Industry's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at CN¥103m. 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. For example, we would not want to see a repeat of last year's loss of CN¥148m. So to be blunt we do think it is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for Yibin Paper Industry that you should be aware of.

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.