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. We can see that 361 Degrees International Limited (HKG:1361) does use debt in its business. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is 361 Degrees International's Net Debt?

The image below, which you can click on for greater detail, shows that 361 Degrees International had debt of CN¥328.5m at the end of June 2024, a reduction from CN¥541.8m over a year. But it also has CN¥5.01b in cash to offset that, meaning it has CN¥4.68b net cash.

A Look At 361 Degrees International's Liabilities

We can see from the most recent balance sheet that 361 Degrees International had liabilities of CN¥3.40b falling due within a year, and liabilities of CN¥233.0m due beyond that. On the other hand, it had cash of CN¥5.01b and CN¥4.66b worth of receivables due within a year. So it can boast CN¥6.04b more liquid assets than total liabilities.

This surplus strongly suggests that 361 Degrees International 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. Simply put, the fact that 361 Degrees International has more cash than debt is arguably a good indication that it can manage its debt safely.

And we also note warmly that 361 Degrees International grew its EBIT by 12% last year, making its debt load easier to handle. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine 361 Degrees International's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While 361 Degrees International 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. In the last three years, 361 Degrees International's free cash flow amounted to 30% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that 361 Degrees International has net cash of CN¥4.68b, as well as more liquid assets than liabilities. On top of that, it increased its EBIT by 12% in the last twelve months. So is 361 Degrees International's debt a risk? It doesn't seem so to us. 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. For example - 361 Degrees International 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.