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.' 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. We can see that Shanghai Medicilon Inc. (SHSE:688202) does use debt in its business. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is Shanghai Medicilon's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2023 Shanghai Medicilon had debt of CN¥487.2m, up from CN¥229.4m in one year. But on the other hand it also has CN¥1.14b in cash, leading to a CN¥648.0m net cash position.

How Strong Is Shanghai Medicilon's Balance Sheet?

According to the last reported balance sheet, Shanghai Medicilon had liabilities of CN¥766.0m due within 12 months, and liabilities of CN¥114.2m due beyond 12 months. On the other hand, it had cash of CN¥1.14b and CN¥836.6m worth of receivables due within a year. So it can boast CN¥1.09b more liquid assets than total liabilities.

It's good to see that Shanghai Medicilon has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Succinctly put, Shanghai Medicilon boasts net cash, so it's fair to say it does not have a heavy debt load! 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 Shanghai Medicilon'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.

In the last year Shanghai Medicilon had a loss before interest and tax, and actually shrunk its revenue by 15%, to CN¥1.4b. We would much prefer see growth.

So How Risky Is Shanghai Medicilon?

We have no doubt that loss making companies are, in general, riskier than profitable ones. And we do note that Shanghai Medicilon had an earnings before interest and tax (EBIT) loss, over the last year. Indeed, in that time it burnt through CN¥283m of cash and made a loss of CN¥31m. Given it only has net cash of CN¥648.0m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. 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 2 warning signs for Shanghai Medicilon you should be aware of.

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.