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. We note that Epoxy Base Electronic Material Corporation Limited (SHSE:603002) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
When Is Debt A Problem?
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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Epoxy Base Electronic Material's Net Debt?
As you can see below, Epoxy Base Electronic Material had CN¥178.0m of debt at March 2024, down from CN¥226.2m a year prior. However, it does have CN¥1.88b in cash offsetting this, leading to net cash of CN¥1.70b.
How Strong Is Epoxy Base Electronic Material's Balance Sheet?
We can see from the most recent balance sheet that Epoxy Base Electronic Material had liabilities of CN¥939.0m falling due within a year, and liabilities of CN¥144.4m due beyond that. On the other hand, it had cash of CN¥1.88b and CN¥1.01b worth of receivables due within a year. So it actually has CN¥1.80b more liquid assets than total liabilities.
This luscious liquidity implies that Epoxy Base Electronic Material's balance sheet is sturdy like a giant sequoia tree. Having regard to this fact, we think its balance sheet is as strong as an ox. Succinctly put, Epoxy Base Electronic Material boasts net cash, so it's fair to say it does not have a heavy debt load!
In fact Epoxy Base Electronic Material's saving grace is its low debt levels, because its EBIT has tanked 37% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. 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 Epoxy Base Electronic Material'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. Epoxy Base Electronic Material may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Looking at the most recent three years, Epoxy Base Electronic Material recorded free cash flow of 24% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.
Summing Up
While it is always sensible to investigate a company's debt, in this case Epoxy Base Electronic Material has CN¥1.70b in net cash and a decent-looking balance sheet. So we are not troubled with Epoxy Base Electronic Material's debt use. 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. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for Epoxy Base Electronic Material you should know about.
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.