Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Guangdong TCL Smart Home Appliances Co., Ltd. (SZSE:002668) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

How Much Debt Does Guangdong TCL Smart Home Appliances Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Guangdong TCL Smart Home Appliances had CN¥1.02b of debt, an increase on CN¥300.8m, over one year. But on the other hand it also has CN¥3.98b in cash, leading to a CN¥2.96b net cash position.

How Healthy Is Guangdong TCL Smart Home Appliances' Balance Sheet?

We can see from the most recent balance sheet that Guangdong TCL Smart Home Appliances had liabilities of CN¥10.5b falling due within a year, and liabilities of CN¥394.7m due beyond that. Offsetting these obligations, it had cash of CN¥3.98b as well as receivables valued at CN¥4.83b due within 12 months. So it has liabilities totalling CN¥2.09b more than its cash and near-term receivables, combined.

Given Guangdong TCL Smart Home Appliances has a market capitalization of CN¥12.1b, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, Guangdong TCL Smart Home Appliances also has more cash than debt, so we're pretty confident it can manage its debt safely.

In addition to that, we're happy to report that Guangdong TCL Smart Home Appliances has boosted its EBIT by 30%, thus reducing the spectre of future debt repayments. 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 Guangdong TCL Smart Home Appliances'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Guangdong TCL Smart Home Appliances 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. During the last three years, Guangdong TCL Smart Home Appliances produced sturdy free cash flow equating to 79% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

Although Guangdong TCL Smart Home Appliances's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥2.96b. And it impressed us with its EBIT growth of 30% over the last year. So we don't think Guangdong TCL Smart Home Appliances's use of debt is risky. Over time, share prices tend to follow earnings per share, so if you're interested in Guangdong TCL Smart Home Appliances, you may well want to click here to check an interactive graph of its earnings per share history.

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.