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.' 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, Jiangsu Provincial Agricultural Reclamation and Development Co.,Ltd. (SHSE:601952) does carry debt. But the real question is whether this debt is making the company risky.

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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 think about a company's use of debt, we first look at cash and debt together.

What Is Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd's Debt?

The image below, which you can click on for greater detail, shows that at June 2024 Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd had debt of CN¥549.1m, up from CN¥522.1m in one year. But it also has CN¥2.42b in cash to offset that, meaning it has CN¥1.87b net cash.

How Strong Is Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd's Balance Sheet?

The latest balance sheet data shows that Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd had liabilities of CN¥2.53b due within a year, and liabilities of CN¥4.95b falling due after that. On the other hand, it had cash of CN¥2.42b and CN¥972.9m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥4.08b.

This deficit isn't so bad because Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd is worth CN¥12.8b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd also has more cash than debt, so we're pretty confident it can manage its debt safely.

If Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd can keep growing EBIT at last year's rate of 14% over the last year, then it will find its debt load easier to manage. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd 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, Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd 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 Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd does have more liabilities than liquid assets, it also has net cash of CN¥1.87b. And it impressed us with free cash flow of CN¥1.6b, being 129% of its EBIT. So we don't have any problem with Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd's use of debt. 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 - Jiangsu Provincial Agricultural Reclamation and DevelopmentLtd has 1 warning sign we think you should be aware of.

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.

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