Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Shanghai Aerospace Automobile Electromechanical Co., Ltd. (SHSE:600151) does use debt in its business. But the real question is whether this debt is making the company risky.

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is Shanghai Aerospace Automobile Electromechanical's Debt?

As you can see below, Shanghai Aerospace Automobile Electromechanical had CN¥1.40b of debt at March 2024, down from CN¥1.52b a year prior. However, because it has a cash reserve of CN¥1.37b, its net debt is less, at about CN¥31.0m.

A Look At Shanghai Aerospace Automobile Electromechanical's Liabilities

According to the last reported balance sheet, Shanghai Aerospace Automobile Electromechanical had liabilities of CN¥4.00b due within 12 months, and liabilities of CN¥1.38b due beyond 12 months. Offsetting this, it had CN¥1.37b in cash and CN¥2.16b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥1.86b.

Shanghai Aerospace Automobile Electromechanical has a market capitalization of CN¥7.24b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. Carrying virtually no net debt, Shanghai Aerospace Automobile Electromechanical has a very light debt load indeed. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Shanghai Aerospace Automobile Electromechanical will need earnings to service that debt. 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.

In the last year Shanghai Aerospace Automobile Electromechanical had a loss before interest and tax, and actually shrunk its revenue by 10%, to CN¥8.3b. That's not what we would hope to see.

Caveat Emptor

Not only did Shanghai Aerospace Automobile Electromechanical's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). To be specific the EBIT loss came in at CN¥249m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. We would feel better if it turned its trailing twelve month loss of CN¥450m into a profit. So we do think this stock is quite risky. 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. To that end, you should be aware of the 1 warning sign we've spotted with Shanghai Aerospace Automobile Electromechanical .

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.