Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Haitian International Holdings Limited (HKG:1882) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Haitian International Holdings

What Is Haitian International Holdings's Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2022 Haitian International Holdings had CN¥2.25b of debt, an increase on CN¥1.34b, over one year. But on the other hand it also has CN¥10.1b in cash, leading to a CN¥7.86b net cash position.

How Healthy Is Haitian International Holdings' Balance Sheet?

We can see from the most recent balance sheet that Haitian International Holdings had liabilities of CN¥8.51b falling due within a year, and liabilities of CN¥493.2m due beyond that. Offsetting this, it had CN¥10.1b in cash and CN¥2.77b in receivables that were due within 12 months. So it actually has CN¥3.87b more liquid assets than total liabilities.

This excess liquidity suggests that Haitian International Holdings is taking a careful approach to debt. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Haitian International Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

On the other hand, Haitian International Holdings's EBIT dived 10%, over the last year. If that rate of decline in earnings continues, the company could find itself in a tight spot. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Haitian International Holdings can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Haitian International Holdings may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, Haitian International Holdings produced sturdy free cash flow equating to 71% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While it is always sensible to investigate a company's debt, in this case Haitian International Holdings has CN¥7.86b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥1.4b, being 71% of its EBIT. So is Haitian International Holdings's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 1 warning sign we've spotted with Haitian International Holdings .

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.