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.' 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. As with many other companies Guangzhou Haozhi Industrial Co.,Ltd. (SZSE:300503) makes use of debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. 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. 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 step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Guangzhou Haozhi IndustrialLtd

What Is Guangzhou Haozhi IndustrialLtd's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2023 Guangzhou Haozhi IndustrialLtd had CN¥626.1m of debt, an increase on CN¥529.8m, over one year. However, because it has a cash reserve of CN¥131.6m, its net debt is less, at about CN¥494.4m.

How Strong Is Guangzhou Haozhi IndustrialLtd's Balance Sheet?

We can see from the most recent balance sheet that Guangzhou Haozhi IndustrialLtd had liabilities of CN¥835.0m falling due within a year, and liabilities of CN¥558.4m due beyond that. Offsetting this, it had CN¥131.6m in cash and CN¥499.4m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥762.4m.

Since publicly traded Guangzhou Haozhi IndustrialLtd shares are worth a total of CN¥4.92b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Guangzhou Haozhi IndustrialLtd's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Guangzhou Haozhi IndustrialLtd had a loss before interest and tax, and actually shrunk its revenue by 6.8%, to CN¥953m. That's not what we would hope to see.

Caveat Emptor

Importantly, Guangzhou Haozhi IndustrialLtd had an earnings before interest and tax (EBIT) loss over the last year. To be specific the EBIT loss came in at CN¥19m. 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¥25m into a profit. So to be blunt we do think it is risky. 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. To that end, you should be aware of the 1 warning sign we've spotted with Guangzhou Haozhi IndustrialLtd .

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.