Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Kingsoft Corporation Limited (HKG:3888) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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 step when considering a company's debt levels is to consider its cash and debt together.

What Is Kingsoft's Debt?

As you can see below, Kingsoft had CN¥2.87b of debt, at September 2024, which is about the same as the year before. You can click the chart for greater detail. But on the other hand it also has CN¥24.8b in cash, leading to a CN¥21.9b net cash position.

A Look At Kingsoft's Liabilities

We can see from the most recent balance sheet that Kingsoft had liabilities of CN¥7.82b falling due within a year, and liabilities of CN¥948.1m due beyond that. Offsetting these obligations, it had cash of CN¥24.8b as well as receivables valued at CN¥820.4m due within 12 months. So it can boast CN¥16.8b more liquid assets than total liabilities.

This excess liquidity is a great indication that Kingsoft's balance sheet is almost as strong as Fort Knox. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Kingsoft has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Kingsoft has boosted its EBIT by 66%, thus reducing the spectre of future debt repayments. 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 Kingsoft 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 Kingsoft 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. Happily for any shareholders, Kingsoft actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While it is always sensible to investigate a company's debt, in this case Kingsoft has CN¥21.9b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 145% of that EBIT to free cash flow, bringing in CN¥4.1b. At the end of the day we're not concerned about Kingsoft's 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, we've discovered 1 warning sign for Kingsoft that you should be aware of before investing here.

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.