David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. As with many other companies Guangdong Taienkang Pharmaceutical Co., Ltd. (SZSE:301263) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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 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. When we think about a company's use of debt, we first look at cash and debt together.

What Is Guangdong Taienkang Pharmaceutical's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2024 Guangdong Taienkang Pharmaceutical had debt of CN¥255.9m, up from CN¥64.1m in one year. However, it does have CN¥589.4m in cash offsetting this, leading to net cash of CN¥333.5m.

A Look At Guangdong Taienkang Pharmaceutical's Liabilities

We can see from the most recent balance sheet that Guangdong Taienkang Pharmaceutical had liabilities of CN¥340.7m falling due within a year, and liabilities of CN¥120.4m due beyond that. Offsetting these obligations, it had cash of CN¥589.4m as well as receivables valued at CN¥425.7m due within 12 months. So it actually has CN¥554.1m more liquid assets than total liabilities.

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

The modesty of its debt load may become crucial for Guangdong Taienkang Pharmaceutical if management cannot prevent a repeat of the 23% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Guangdong Taienkang Pharmaceutical'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 Guangdong Taienkang Pharmaceutical 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. Considering the last three years, Guangdong Taienkang Pharmaceutical actually recorded a cash outflow, overall. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Guangdong Taienkang Pharmaceutical has net cash of CN¥333.5m, as well as more liquid assets than liabilities. So while Guangdong Taienkang Pharmaceutical does not have a great balance sheet, it's certainly not too bad. 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. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Guangdong Taienkang Pharmaceutical you should know about.

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.