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.' 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. As with many other companies Huizhou Desay SV Automotive Co., Ltd. (SZSE:002920) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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 examine debt levels, we first consider both cash and debt levels, together.

How Much Debt Does Huizhou Desay SV Automotive Carry?

The image below, which you can click on for greater detail, shows that Huizhou Desay SV Automotive had debt of CN¥1.08b at the end of March 2024, a reduction from CN¥1.35b over a year. But it also has CN¥1.09b in cash to offset that, meaning it has CN¥12.5m net cash.

How Strong Is Huizhou Desay SV Automotive's Balance Sheet?

The latest balance sheet data shows that Huizhou Desay SV Automotive had liabilities of CN¥8.78b due within a year, and liabilities of CN¥1.23b falling due after that. Offsetting this, it had CN¥1.09b in cash and CN¥8.49b in receivables that were due within 12 months. So it has liabilities totalling CN¥429.0m more than its cash and near-term receivables, combined.

Having regard to Huizhou Desay SV Automotive's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the CN¥53.4b company is short on cash, but still worth keeping an eye on the balance sheet. Despite its noteworthy liabilities, Huizhou Desay SV Automotive boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Huizhou Desay SV Automotive has boosted its EBIT by 45%, 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 Huizhou Desay SV Automotive 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. While Huizhou Desay SV Automotive has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Considering the last three years, Huizhou Desay SV Automotive actually recorded a cash outflow, overall. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Huizhou Desay SV Automotive has CN¥12.5m in net cash. And we liked the look of last year's 45% year-on-year EBIT growth. So we are not troubled with Huizhou Desay SV Automotive's debt use. 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. To that end, you should learn about the 2 warning signs we've spotted with Huizhou Desay SV Automotive (including 1 which is a bit concerning) .

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com