Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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. We note that Asymchem Laboratories (Tianjin) Co., Ltd. (SZSE:002821) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

What Is Asymchem Laboratories (Tianjin)'s Debt?

As you can see below, at the end of March 2024, Asymchem Laboratories (Tianjin) had CN¥12.2m of debt, up from none a year ago. Click the image for more detail. However, it does have CN¥8.98b in cash offsetting this, leading to net cash of CN¥8.97b.

A Look At Asymchem Laboratories (Tianjin)'s Liabilities

The latest balance sheet data shows that Asymchem Laboratories (Tianjin) had liabilities of CN¥1.77b due within a year, and liabilities of CN¥466.2m falling due after that. Offsetting these obligations, it had cash of CN¥8.98b as well as receivables valued at CN¥1.85b due within 12 months. So it actually has CN¥8.59b more liquid assets than total liabilities.

This surplus strongly suggests that Asymchem Laboratories (Tianjin) has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Asymchem Laboratories (Tianjin) has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Asymchem Laboratories (Tianjin)'s saving grace is its low debt levels, because its EBIT has tanked 49% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Asymchem Laboratories (Tianjin) 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Asymchem Laboratories (Tianjin) 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. Looking at the most recent three years, Asymchem Laboratories (Tianjin) recorded free cash flow of 34% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Asymchem Laboratories (Tianjin) has net cash of CN¥8.97b, as well as more liquid assets than liabilities. So we are not troubled with Asymchem Laboratories (Tianjin)'s debt use. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Asymchem Laboratories (Tianjin) 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.