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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Fujian Yuanli Active Carbon Co.,Ltd. (SZSE:300174) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
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. If things get really bad, the lenders can take control of the business. 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. 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. When we examine debt levels, we first consider both cash and debt levels, together.
How Much Debt Does Fujian Yuanli Active CarbonLtd Carry?
You can click the graphic below for the historical numbers, but it shows that Fujian Yuanli Active CarbonLtd had CN¥312.2m of debt in September 2024, down from CN¥364.5m, one year before. But it also has CN¥1.55b in cash to offset that, meaning it has CN¥1.24b net cash.
How Healthy Is Fujian Yuanli Active CarbonLtd's Balance Sheet?
The latest balance sheet data shows that Fujian Yuanli Active CarbonLtd had liabilities of CN¥452.4m due within a year, and liabilities of CN¥166.1m falling due after that. Offsetting this, it had CN¥1.55b in cash and CN¥448.0m in receivables that were due within 12 months. So it actually has CN¥1.38b more liquid assets than total liabilities.
This surplus suggests that Fujian Yuanli Active CarbonLtd is using debt in a way that is appears to be both safe and conservative. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, Fujian Yuanli Active CarbonLtd boasts net cash, so it's fair to say it does not have a heavy debt load!
Fortunately, Fujian Yuanli Active CarbonLtd grew its EBIT by 9.2% 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 ultimately the future profitability of the business will decide if Fujian Yuanli Active CarbonLtd can strengthen its balance sheet over time. 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. While Fujian Yuanli Active CarbonLtd 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, Fujian Yuanli Active CarbonLtd recorded negative free cash flow, in total. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.
Summing Up
While we empathize with investors who find debt concerning, you should keep in mind that Fujian Yuanli Active CarbonLtd has net cash of CN¥1.24b, as well as more liquid assets than liabilities. On top of that, it increased its EBIT by 9.2% in the last twelve months. So we don't have any problem with Fujian Yuanli Active CarbonLtd's use of debt. 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. For example - Fujian Yuanli Active CarbonLtd has 1 warning sign we think you should be aware of.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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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.
