The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies RongFa Nuclear Equipment Co., Ltd. (SZSE:002366) makes use of debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

How Much Debt Does RongFa Nuclear Equipment Carry?

The image below, which you can click on for greater detail, shows that RongFa Nuclear Equipment had debt of CN¥77.5m at the end of September 2023, a reduction from CN¥1.34b over a year. But on the other hand it also has CN¥1.43b in cash, leading to a CN¥1.35b net cash position.

A Look At RongFa Nuclear Equipment's Liabilities

The latest balance sheet data shows that RongFa Nuclear Equipment had liabilities of CN¥1.37b due within a year, and liabilities of CN¥390.3m falling due after that. Offsetting this, it had CN¥1.43b in cash and CN¥1.63b in receivables that were due within 12 months. So it can boast CN¥1.30b more liquid assets than total liabilities.

This short term liquidity is a sign that RongFa Nuclear Equipment could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, RongFa Nuclear Equipment boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But it is RongFa Nuclear Equipment'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.

Over 12 months, RongFa Nuclear Equipment reported revenue of CN¥651m, which is a gain of 59%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.

So How Risky Is RongFa Nuclear Equipment?

Although RongFa Nuclear Equipment had an earnings before interest and tax (EBIT) loss over the last twelve months, it made a statutory profit of CN¥533m. So when you consider it has net cash, along with the statutory profit, the stock probably isn't as risky as it might seem, at least in the short term. Keeping in mind its 59% revenue growth over the last year, we think there's a decent chance the company is on track. We'd see further strong growth as an optimistic indication. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 1 warning sign for RongFa Nuclear Equipment that you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.