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, Qianhe Condiment and Food Co., Ltd. (SHSE:603027) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.

What Is Qianhe Condiment and Food's Debt?

The image below, which you can click on for greater detail, shows that at June 2024 Qianhe Condiment and Food had debt of CN¥232.6m, up from CN¥20.0m in one year. However, it does have CN¥1.46b in cash offsetting this, leading to net cash of CN¥1.23b.

How Strong Is Qianhe Condiment and Food's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Qianhe Condiment and Food had liabilities of CN¥773.3m due within 12 months and liabilities of CN¥46.7m due beyond that. Offsetting these obligations, it had cash of CN¥1.46b as well as receivables valued at CN¥145.4m due within 12 months. So it actually has CN¥786.6m more liquid assets than total liabilities.

This surplus suggests that Qianhe Condiment and Food has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Qianhe Condiment and Food boasts net cash, so it's fair to say it does not have a heavy debt load!

Fortunately, Qianhe Condiment and Food grew its EBIT by 4.0% in the last year, making that debt load look even more manageable. 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 Qianhe Condiment and Food'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. Qianhe Condiment and Food 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. In the last three years, Qianhe Condiment and Food's free cash flow amounted to 45% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to investigate a company's debt, in this case Qianhe Condiment and Food has CN¥1.23b in net cash and a decent-looking balance sheet. And it also grew its EBIT by 4.0% over the last year. So we don't have any problem with Qianhe Condiment and Food's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 1 warning sign for Qianhe Condiment and Food that you should be aware of before investing here.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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.