Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Harbin Hatou Investment Co.,Ltd (SHSE:600864) makes use of debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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. When we think about a company's use of debt, we first look at cash and debt together.

How Much Debt Does Harbin Hatou InvestmentLtd Carry?

The image below, which you can click on for greater detail, shows that at September 2024 Harbin Hatou InvestmentLtd had debt of CN¥18.8b, up from CN¥14.6b in one year. But it also has CN¥27.0b in cash to offset that, meaning it has CN¥8.21b net cash.

A Look At Harbin Hatou InvestmentLtd's Liabilities

According to the last reported balance sheet, Harbin Hatou InvestmentLtd had liabilities of CN¥26.0b due within 12 months, and liabilities of CN¥3.80b due beyond 12 months. Offsetting these obligations, it had cash of CN¥27.0b as well as receivables valued at CN¥5.44b due within 12 months. So it actually has CN¥2.63b more liquid assets than total liabilities.

This surplus suggests that Harbin Hatou InvestmentLtd is using debt in a way that is appears to be both safe and conservative. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Simply put, the fact that Harbin Hatou InvestmentLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Harbin Hatou InvestmentLtd's saving grace is its low debt levels, because its EBIT has tanked 27% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But it is Harbin Hatou InvestmentLtd'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Harbin Hatou InvestmentLtd has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, Harbin Hatou InvestmentLtd actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Harbin Hatou InvestmentLtd has net cash of CN¥8.21b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥3.8b, being 1,076% of its EBIT. So is Harbin Hatou InvestmentLtd's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 2 warning signs for Harbin Hatou InvestmentLtd (1 can't be ignored) you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.