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. Importantly, Fujian Wanchen Biotechnology Group Co., Ltd. (SZSE:300972) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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 examine debt levels, we first consider both cash and debt levels, together.

What Is Fujian Wanchen Biotechnology Group's Net Debt?

As you can see below, at the end of March 2024, Fujian Wanchen Biotechnology Group had CN¥957.6m of debt, up from CN¥385.7m a year ago. Click the image for more detail. But it also has CN¥1.71b in cash to offset that, meaning it has CN¥747.5m net cash.

A Look At Fujian Wanchen Biotechnology Group's Liabilities

Zooming in on the latest balance sheet data, we can see that Fujian Wanchen Biotechnology Group had liabilities of CN¥2.83b due within 12 months and liabilities of CN¥591.5m due beyond that. On the other hand, it had cash of CN¥1.71b and CN¥117.0m worth of receivables due within a year. So it has liabilities totalling CN¥1.60b more than its cash and near-term receivables, combined.

Fujian Wanchen Biotechnology Group has a market capitalization of CN¥3.64b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Fujian Wanchen Biotechnology Group also has more cash than debt, so we're pretty confident it can manage its debt safely.

Shareholders should be aware that Fujian Wanchen Biotechnology Group's EBIT was down 71% last year. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. 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 Fujian Wanchen Biotechnology Group'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. While Fujian Wanchen Biotechnology Group 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. Over the last three years, Fujian Wanchen Biotechnology Group 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 Fujian Wanchen Biotechnology Group does have more liabilities than liquid assets, it also has net cash of CN¥747.5m. And it impressed us with free cash flow of CN¥1.0b, being 934% of its EBIT. So although we see some areas for improvement, we're not too worried about Fujian Wanchen Biotechnology Group's balance sheet. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 1 warning sign for Fujian Wanchen Biotechnology Group you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.

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