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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Yantai Changyu Pioneer Wine Company Limited (SZSE:000869) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth 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.

View our latest analysis for Yantai Changyu Pioneer Wine

What Is Yantai Changyu Pioneer Wine's Net Debt?

The image below, which you can click on for greater detail, shows that Yantai Changyu Pioneer Wine had debt of CN¥540.5m at the end of September 2023, a reduction from CN¥753.2m over a year. However, it does have CN¥1.87b in cash offsetting this, leading to net cash of CN¥1.33b.

How Healthy Is Yantai Changyu Pioneer Wine's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Yantai Changyu Pioneer Wine had liabilities of CN¥1.92b due within 12 months and liabilities of CN¥201.2m due beyond that. Offsetting these obligations, it had cash of CN¥1.87b as well as receivables valued at CN¥523.4m due within 12 months. So it can boast CN¥270.7m more liquid assets than total liabilities.

Having regard to Yantai Changyu Pioneer Wine's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the CN¥13.7b company is struggling for cash, we still think it's worth monitoring its balance sheet. Succinctly put, Yantai Changyu Pioneer Wine boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Yantai Changyu Pioneer Wine's EBIT dived 19%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Yantai Changyu Pioneer Wine will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Yantai Changyu Pioneer Wine 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, Yantai Changyu Pioneer Wine actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While it is always sensible to investigate a company's debt, in this case Yantai Changyu Pioneer Wine has CN¥1.33b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 122% of that EBIT to free cash flow, bringing in CN¥721m. So we don't have any problem with Yantai Changyu Pioneer Wine's use of debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Yantai Changyu Pioneer Wine is showing 1 warning sign in our investment analysis , you should know about...

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.