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. As with many other companies China Shineway Pharmaceutical Group Limited (HKG:2877) makes use of debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is China Shineway Pharmaceutical Group's Net Debt?

As you can see below, at the end of June 2024, China Shineway Pharmaceutical Group had CN¥330.0m of debt, up from CN¥300.0m a year ago. Click the image for more detail. But it also has CN¥6.23b in cash to offset that, meaning it has CN¥5.90b net cash.

How Strong Is China Shineway Pharmaceutical Group's Balance Sheet?

The latest balance sheet data shows that China Shineway Pharmaceutical Group had liabilities of CN¥2.43b due within a year, and liabilities of CN¥113.0m falling due after that. Offsetting these obligations, it had cash of CN¥6.23b as well as receivables valued at CN¥1.30b due within 12 months. So it actually has CN¥4.99b more liquid assets than total liabilities.

This excess liquidity is a great indication that China Shineway Pharmaceutical Group's balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. Succinctly put, China Shineway Pharmaceutical Group boasts net cash, so it's fair to say it does not have a heavy debt load!

China Shineway Pharmaceutical Group's EBIT was pretty flat over the last year, but that shouldn't be an issue given the it doesn't have a lot of debt. 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 China Shineway Pharmaceutical 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While China Shineway Pharmaceutical 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. Happily for any shareholders, China Shineway Pharmaceutical Group actually produced more free cash flow than EBIT over the last three years. 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 we empathize with investors who find debt concerning, you should keep in mind that China Shineway Pharmaceutical Group has net cash of CN¥5.90b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥1.1b, being 102% of its EBIT. So we don't think China Shineway Pharmaceutical Group's use of debt is risky. 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. To that end, you should be aware of the 1 warning sign we've spotted with China Shineway Pharmaceutical Group .

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.