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 Anhui Guofeng New Materials Co., Ltd. (SZSE:000859) does use debt in its business. 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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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 Anhui Guofeng New Materials's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2024 Anhui Guofeng New Materials had debt of CN¥415.0m, up from CN¥228.8m in one year. However, because it has a cash reserve of CN¥331.3m, its net debt is less, at about CN¥83.7m.

How Strong Is Anhui Guofeng New Materials' Balance Sheet?

According to the last reported balance sheet, Anhui Guofeng New Materials had liabilities of CN¥924.3m due within 12 months, and liabilities of CN¥367.5m due beyond 12 months. Offsetting this, it had CN¥331.3m in cash and CN¥537.6m in receivables that were due within 12 months. So it has liabilities totalling CN¥422.8m more than its cash and near-term receivables, combined.

Given Anhui Guofeng New Materials has a market capitalization of CN¥5.72b, 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. Carrying virtually no net debt, Anhui Guofeng New Materials has a very light debt load indeed. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Anhui Guofeng New Materials's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Anhui Guofeng New Materials's revenue was pretty flat, and it made a negative EBIT. While that hardly impresses, its not too bad either.

Caveat Emptor

Over the last twelve months Anhui Guofeng New Materials produced an earnings before interest and tax (EBIT) loss. To be specific the EBIT loss came in at CN¥121m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. However, it doesn't help that it burned through CN¥461m of cash over the last year. So in short it's a really risky stock. 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. For example Anhui Guofeng New Materials has 2 warning signs (and 1 which is a bit concerning) we think you should know about.

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.