Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 can see that Anhui Xinhua Media Co., Ltd. (SHSE:601801) 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 assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. When we think about a company's use of debt, we first look at cash and debt together.

What Is Anhui Xinhua Media's Net Debt?

As you can see below, at the end of March 2024, Anhui Xinhua Media had CN¥1.30b of debt, up from CN¥288.9m a year ago. Click the image for more detail. However, it does have CN¥10.9b in cash offsetting this, leading to net cash of CN¥9.65b.

How Strong Is Anhui Xinhua Media's Balance Sheet?

According to the last reported balance sheet, Anhui Xinhua Media had liabilities of CN¥6.73b due within 12 months, and liabilities of CN¥932.0m due beyond 12 months. Offsetting these obligations, it had cash of CN¥10.9b as well as receivables valued at CN¥2.40b due within 12 months. So it actually has CN¥5.68b more liquid assets than total liabilities.

This excess liquidity is a great indication that Anhui Xinhua Media's balance sheet is almost as strong as Fort Knox. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Anhui Xinhua Media has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Anhui Xinhua Media has boosted its EBIT by 42%, thus reducing the spectre of future debt repayments. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Anhui Xinhua Media can strengthen its balance sheet over time. 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 company can only pay off debt with cold hard cash, not accounting profits. Anhui Xinhua Media 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. Over the last three years, Anhui Xinhua Media actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While it is always sensible to investigate a company's debt, in this case Anhui Xinhua Media has CN¥9.65b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥144m, being 160% of its EBIT. At the end of the day we're not concerned about Anhui Xinhua Media's debt. 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. Be aware that Anhui Xinhua Media is showing 2 warning signs in our investment analysis , and 1 of those shouldn't be ignored...

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.