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 can see that ShenZhen QiangRui Precision Technology Co., Ltd. (SZSE:301128) does use debt in its business. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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 ShenZhen QiangRui Precision Technology Carry?
As you can see below, at the end of September 2024, ShenZhen QiangRui Precision Technology had CN¥30.0m of debt, up from CN¥8.25m a year ago. Click the image for more detail. However, it does have CN¥309.8m in cash offsetting this, leading to net cash of CN¥279.8m.
How Healthy Is ShenZhen QiangRui Precision Technology's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that ShenZhen QiangRui Precision Technology had liabilities of CN¥463.3m due within 12 months and liabilities of CN¥50.6m due beyond that. On the other hand, it had cash of CN¥309.8m and CN¥491.2m worth of receivables due within a year. So it can boast CN¥287.1m more liquid assets than total liabilities.
This short term liquidity is a sign that ShenZhen QiangRui Precision Technology could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, ShenZhen QiangRui Precision Technology boasts net cash, so it's fair to say it does not have a heavy debt load!
Better yet, ShenZhen QiangRui Precision Technology grew its EBIT by 268% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since ShenZhen QiangRui Precision Technology will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While ShenZhen QiangRui Precision 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, ShenZhen QiangRui Precision Technology saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.
Summing Up
While it is always sensible to investigate a company's debt, in this case ShenZhen QiangRui Precision Technology has CN¥279.8m in net cash and a decent-looking balance sheet. And we liked the look of last year's 268% year-on-year EBIT growth. So we are not troubled with ShenZhen QiangRui Precision Technology's debt use. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 3 warning signs for ShenZhen QiangRui Precision Technology you should be aware of, and 1 of them makes us a bit uncomfortable.
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.
