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. As with many other companies Zhejiang Jingsheng Mechanical & Electrical Co., Ltd. (SZSE:300316) makes use of debt. But the real question is whether this debt is making the company risky.

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. 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. When we think about a company's use of debt, we first look at cash and debt together.

What Is Zhejiang Jingsheng Mechanical & Electrical's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2024 Zhejiang Jingsheng Mechanical & Electrical had debt of CN¥2.30b, up from CN¥1.71b in one year. However, its balance sheet shows it holds CN¥3.30b in cash, so it actually has CN¥996.0m net cash.

How Healthy Is Zhejiang Jingsheng Mechanical & Electrical's Balance Sheet?

We can see from the most recent balance sheet that Zhejiang Jingsheng Mechanical & Electrical had liabilities of CN¥14.2b falling due within a year, and liabilities of CN¥1.41b due beyond that. Offsetting these obligations, it had cash of CN¥3.30b as well as receivables valued at CN¥6.64b due within 12 months. So its liabilities total CN¥5.66b more than the combination of its cash and short-term receivables.

Given Zhejiang Jingsheng Mechanical & Electrical has a market capitalization of CN¥42.9b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Zhejiang Jingsheng Mechanical & Electrical also has more cash than debt, so we're pretty confident it can manage its debt safely.

But the bad news is that Zhejiang Jingsheng Mechanical & Electrical has seen its EBIT plunge 11% in the last twelve months. 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 Zhejiang Jingsheng Mechanical & Electrical's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Zhejiang Jingsheng Mechanical & Electrical 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, Zhejiang Jingsheng Mechanical & Electrical barely recorded positive free cash flow, in total. Some might say that's a concern, when it comes considering how easily it would be for it to down debt.

Summing Up

Although Zhejiang Jingsheng Mechanical & Electrical's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥996.0m. So we are not troubled with Zhejiang Jingsheng Mechanical & Electrical's debt use. 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. To that end, you should learn about the 3 warning signs we've spotted with Zhejiang Jingsheng Mechanical & Electrical (including 1 which can't be ignored) .

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.