Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Neusoft Corporation (SHSE:600718) does carry debt. 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. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

What Is Neusoft's Net Debt?

As you can see below, at the end of March 2024, Neusoft had CN¥1.07b of debt, up from CN¥787.0m a year ago. Click the image for more detail. However, its balance sheet shows it holds CN¥2.76b in cash, so it actually has CN¥1.69b net cash.

How Strong Is Neusoft's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Neusoft had liabilities of CN¥7.93b due within 12 months and liabilities of CN¥1.19b due beyond that. Offsetting this, it had CN¥2.76b in cash and CN¥2.08b in receivables that were due within 12 months. So it has liabilities totalling CN¥4.28b more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Neusoft has a market capitalization of CN¥10.3b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. Despite its noteworthy liabilities, Neusoft boasts net cash, so it's fair to say it does not have a heavy debt load!

Although Neusoft made a loss at the EBIT level, last year, it was also good to see that it generated CN¥321m in EBIT over the last twelve months. 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 Neusoft 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Neusoft 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 year, Neusoft 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 Neusoft does have more liabilities than liquid assets, it also has net cash of CN¥1.69b. The cherry on top was that in converted 137% of that EBIT to free cash flow, bringing in CN¥440m. So we are not troubled with Neusoft'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. Be aware that Neusoft is showing 2 warning signs in our investment analysis , you should know about...

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.

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