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 can see that Shenzhen Xinhao Photoelectricity Technology Co., Ltd (SZSE:301051) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Shenzhen Xinhao Photoelectricity Technology's Net Debt?

The image below, which you can click on for greater detail, shows that at March 2024 Shenzhen Xinhao Photoelectricity Technology had debt of CN¥1.53b, up from CN¥1.23b in one year. However, because it has a cash reserve of CN¥835.9m, its net debt is less, at about CN¥690.5m.

A Look At Shenzhen Xinhao Photoelectricity Technology's Liabilities

We can see from the most recent balance sheet that Shenzhen Xinhao Photoelectricity Technology had liabilities of CN¥1.83b falling due within a year, and liabilities of CN¥420.0m due beyond that. On the other hand, it had cash of CN¥835.9m and CN¥681.7m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥733.0m.

Of course, Shenzhen Xinhao Photoelectricity Technology has a market capitalization of CN¥4.21b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. 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 Shenzhen Xinhao Photoelectricity Technology's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

In the last year Shenzhen Xinhao Photoelectricity Technology wasn't profitable at an EBIT level, but managed to grow its revenue by 21%, to CN¥1.9b. With any luck the company will be able to grow its way to profitability.

Caveat Emptor

Even though Shenzhen Xinhao Photoelectricity Technology managed to grow its top line quite deftly, the cold hard truth is that it is losing money on the EBIT line. Indeed, it lost CN¥45m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled CN¥341m in negative free cash flow over the last twelve months. So in short it's a really risky stock. 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. For instance, we've identified 1 warning sign for Shenzhen Xinhao Photoelectricity Technology that you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.