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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Xiamen Jihong Technology Co., Ltd. (SZSE:002803) does carry debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

How Much Debt Does Xiamen Jihong Technology Carry?

As you can see below, Xiamen Jihong Technology had CN¥201.4m of debt at June 2024, down from CN¥240.1m a year prior. But on the other hand it also has CN¥733.3m in cash, leading to a CN¥532.0m net cash position.

How Strong Is Xiamen Jihong Technology's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Xiamen Jihong Technology had liabilities of CN¥697.1m due within 12 months and liabilities of CN¥233.4m due beyond that. Offsetting this, it had CN¥733.3m in cash and CN¥469.5m in receivables that were due within 12 months. So it can boast CN¥272.3m more liquid assets than total liabilities.

This surplus suggests that Xiamen Jihong Technology has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Xiamen Jihong Technology has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Xiamen Jihong Technology's saving grace is its low debt levels, because its EBIT has tanked 30% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. 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 Xiamen Jihong Technology 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 company can only pay off debt with cold hard cash, not accounting profits. While Xiamen Jihong Technology 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. Over the last three years, Xiamen Jihong Technology recorded free cash flow worth a fulsome 90% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case Xiamen Jihong Technology has CN¥532.0m in net cash and a decent-looking balance sheet. The cherry on top was that in converted 90% of that EBIT to free cash flow, bringing in CN¥307m. So we are not troubled with Xiamen Jihong Technology's debt use. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 1 warning sign with Xiamen Jihong Technology , and understanding them should be part of your investment process.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.