David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. We can see that Shanghai Zhonggu Logistics Co., Ltd. (SHSE:603565) does use debt in its business. 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 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. The first step when considering a company's debt levels is to consider its cash and debt together.

How Much Debt Does Shanghai Zhonggu Logistics Carry?

The image below, which you can click on for greater detail, shows that at March 2024 Shanghai Zhonggu Logistics had debt of CN¥7.50b, up from CN¥5.56b in one year. But it also has CN¥10.9b in cash to offset that, meaning it has CN¥3.41b net cash.

A Look At Shanghai Zhonggu Logistics' Liabilities

According to the last reported balance sheet, Shanghai Zhonggu Logistics had liabilities of CN¥5.54b due within 12 months, and liabilities of CN¥7.45b due beyond 12 months. On the other hand, it had cash of CN¥10.9b and CN¥815.6m worth of receivables due within a year. So its liabilities total CN¥1.27b more than the combination of its cash and short-term receivables.

Of course, Shanghai Zhonggu Logistics has a market capitalization of CN¥20.2b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, Shanghai Zhonggu Logistics boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact Shanghai Zhonggu Logistics's saving grace is its low debt levels, because its EBIT has tanked 59% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Shanghai Zhonggu Logistics'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. Shanghai Zhonggu Logistics 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 most recent three years, Shanghai Zhonggu Logistics recorded free cash flow worth 55% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

We could understand if investors are concerned about Shanghai Zhonggu Logistics's liabilities, but we can be reassured by the fact it has has net cash of CN¥3.41b. So we are not troubled with Shanghai Zhonggu Logistics's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Shanghai Zhonggu Logistics has 3 warning signs (and 2 which are concerning) we think you should know about.

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.