Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. Importantly, Zhejiang Huatong Meat Products Co., Ltd. (SZSE:002840) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. 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 Huatong Meat Products's Debt?

As you can see below, at the end of September 2024, Zhejiang Huatong Meat Products had CN¥5.16b of debt, up from CN¥4.79b a year ago. Click the image for more detail. However, it also had CN¥681.6m in cash, and so its net debt is CN¥4.48b.

How Healthy Is Zhejiang Huatong Meat Products' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Zhejiang Huatong Meat Products had liabilities of CN¥3.58b due within 12 months and liabilities of CN¥3.29b due beyond that. On the other hand, it had cash of CN¥681.6m and CN¥133.3m worth of receivables due within a year. So its liabilities total CN¥6.05b more than the combination of its cash and short-term receivables.

This is a mountain of leverage relative to its market capitalization of CN¥7.82b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Zhejiang Huatong Meat Products'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.

In the last year Zhejiang Huatong Meat Products had a loss before interest and tax, and actually shrunk its revenue by 3.2%, to CN¥8.9b. That's not what we would hope to see.

Caveat Emptor

Importantly, Zhejiang Huatong Meat Products had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost CN¥72m 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. For example, we would not want to see a repeat of last year's loss of CN¥193m. So to be blunt we do think it is risky. For riskier companies like Zhejiang Huatong Meat Products I always like to keep an eye on the long term profit and revenue trends. Fortunately, you can click to see our interactive graph of its profit, revenue, and operating cashflow.

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.