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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, CECEP Techand Ecology&Environment Co.,Ltd. (SZSE:300197) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

What Is CECEP Techand Ecology&EnvironmentLtd's Debt?

You can click the graphic below for the historical numbers, but it shows that CECEP Techand Ecology&EnvironmentLtd had CN¥15.6b of debt in March 2024, down from CN¥16.8b, one year before. On the flip side, it has CN¥2.01b in cash leading to net debt of about CN¥13.6b.

A Look At CECEP Techand Ecology&EnvironmentLtd's Liabilities

According to the last reported balance sheet, CECEP Techand Ecology&EnvironmentLtd had liabilities of CN¥16.1b due within 12 months, and liabilities of CN¥7.52b due beyond 12 months. Offsetting these obligations, it had cash of CN¥2.01b as well as receivables valued at CN¥7.80b due within 12 months. So its liabilities total CN¥13.8b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the CN¥4.57b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, CECEP Techand Ecology&EnvironmentLtd would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But it is CECEP Techand Ecology&EnvironmentLtd's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Over 12 months, CECEP Techand Ecology&EnvironmentLtd made a loss at the EBIT level, and saw its revenue drop to CN¥1.2b, which is a fall of 57%. That makes us nervous, to say the least.

Caveat Emptor

Not only did CECEP Techand Ecology&EnvironmentLtd's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping CN¥1.3b. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. Of course, it may be able to improve its situation with a bit of luck and good execution. But we think that is unlikely since it is low on liquid assets, and made a loss of CN¥1.7b in the last year. So while it's not wise to assume the company will fail, we do think it's risky. 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. We've identified 2 warning signs with CECEP Techand Ecology&EnvironmentLtd , and understanding them should be part of your investment process.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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