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.' 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. Importantly, Jiangsu TongLin Electric Co.,Ltd. (SZSE:301168) does carry debt. 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. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is Jiangsu TongLin ElectricLtd's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Jiangsu TongLin ElectricLtd had CN¥99.4m of debt, an increase on CN¥19.8m, over one year. However, it does have CN¥1.45b in cash offsetting this, leading to net cash of CN¥1.35b.

How Healthy Is Jiangsu TongLin ElectricLtd's Balance Sheet?

We can see from the most recent balance sheet that Jiangsu TongLin ElectricLtd had liabilities of CN¥1.14b falling due within a year, and liabilities of CN¥42.0m due beyond that. Offsetting this, it had CN¥1.45b in cash and CN¥819.5m in receivables that were due within 12 months. So it can boast CN¥1.09b more liquid assets than total liabilities.

It's good to see that Jiangsu TongLin ElectricLtd has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that Jiangsu TongLin ElectricLtd 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 Jiangsu TongLin ElectricLtd has boosted its EBIT by 53%, thus reducing the spectre of future debt repayments. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Jiangsu TongLin ElectricLtd's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Jiangsu TongLin ElectricLtd 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. In the last three years, Jiangsu TongLin ElectricLtd created free cash flow amounting to 3.8% of its EBIT, an uninspiring performance. That limp level of cash conversion undermines its ability to manage and pay down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Jiangsu TongLin ElectricLtd has net cash of CN¥1.35b, as well as more liquid assets than liabilities. And we liked the look of last year's 53% year-on-year EBIT growth. So is Jiangsu TongLin ElectricLtd's debt a risk? It doesn't seem so to us. 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. Case in point: We've spotted 1 warning sign for Jiangsu TongLin ElectricLtd you should be aware of.

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.