David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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, Contemporary Amperex Technology Co., Limited (SZSE:300750) does carry debt. 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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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.

What Is Contemporary Amperex Technology's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Contemporary Amperex Technology had CN¥132.5b of debt, an increase on CN¥106.2b, over one year. However, its balance sheet shows it holds CN¥288.7b in cash, so it actually has CN¥156.3b net cash.

A Look At Contemporary Amperex Technology's Liabilities

We can see from the most recent balance sheet that Contemporary Amperex Technology had liabilities of CN¥279.0b falling due within a year, and liabilities of CN¥221.9b due beyond that. Offsetting these obligations, it had cash of CN¥288.7b as well as receivables valued at CN¥112.0b due within 12 months. So it has liabilities totalling CN¥100.1b more than its cash and near-term receivables, combined.

Given Contemporary Amperex Technology has a humongous market capitalization of CN¥776.6b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Contemporary Amperex Technology also has more cash than debt, so we're pretty confident it can manage its debt safely.

Another good sign is that Contemporary Amperex Technology has been able to increase its EBIT by 27% in twelve months, making it easier to pay down debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Contemporary Amperex Technology can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Contemporary Amperex Technology 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, Contemporary Amperex Technology recorded free cash flow worth a fulsome 90% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing Up

Although Contemporary Amperex Technology's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥156.3b. And it impressed us with free cash flow of CN¥70b, being 90% of its EBIT. So we don't think Contemporary Amperex Technology's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - Contemporary Amperex Technology has 1 warning sign we think you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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