The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Guangdong DFP New Material Group Co., Ltd. (SHSE:601515) makes use of debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

What Is Guangdong DFP New Material Group's Debt?

The image below, which you can click on for greater detail, shows that at June 2024 Guangdong DFP New Material Group had debt of CN¥393.0m, up from CN¥289.1m in one year. However, it does have CN¥1.97b in cash offsetting this, leading to net cash of CN¥1.58b.

A Look At Guangdong DFP New Material Group's Liabilities

We can see from the most recent balance sheet that Guangdong DFP New Material Group had liabilities of CN¥599.1m falling due within a year, and liabilities of CN¥645.7m due beyond that. On the other hand, it had cash of CN¥1.97b and CN¥734.4m worth of receivables due within a year. So it actually has CN¥1.46b more liquid assets than total liabilities.

This surplus strongly suggests that Guangdong DFP New Material Group has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this view, lenders should feel as safe as the beloved of a black-belt karate master. Succinctly put, Guangdong DFP New Material Group boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Guangdong DFP New Material Group 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.

Over 12 months, Guangdong DFP New Material Group made a loss at the EBIT level, and saw its revenue drop to CN¥1.8b, which is a fall of 47%. That makes us nervous, to say the least.

So How Risky Is Guangdong DFP New Material Group?

Statistically speaking companies that lose money are riskier than those that make money. And the fact is that over the last twelve months Guangdong DFP New Material Group lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of CN¥985m and booked a CN¥221m accounting loss. With only CN¥1.58b on the balance sheet, it would appear that its going to need to raise capital again soon. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. 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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Guangdong DFP New Material Group (of which 2 are concerning!) you should know about.

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.