David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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, Hunan Corun New Energy Co., Ltd. (SHSE:600478) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. 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 Hunan Corun New Energy's Net Debt?

The image below, which you can click on for greater detail, shows that at March 2024 Hunan Corun New Energy had debt of CN¥3.23b, up from CN¥2.89b in one year. On the flip side, it has CN¥1.51b in cash leading to net debt of about CN¥1.72b.

How Strong Is Hunan Corun New Energy's Balance Sheet?

According to the last reported balance sheet, Hunan Corun New Energy had liabilities of CN¥3.81b due within 12 months, and liabilities of CN¥2.07b due beyond 12 months. Offsetting this, it had CN¥1.51b in cash and CN¥670.3m in receivables that were due within 12 months. So its liabilities total CN¥3.71b more than the combination of its cash and short-term receivables.

This is a mountain of leverage relative to its market capitalization of CN¥5.66b. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. When analysing debt levels, the balance sheet is the obvious place to start. But it is Hunan Corun New Energy's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Over 12 months, Hunan Corun New Energy made a loss at the EBIT level, and saw its revenue drop to CN¥3.5b, which is a fall of 16%. That's not what we would hope to see.

Caveat Emptor

Not only did Hunan Corun New Energy's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). To be specific the EBIT loss came in at CN¥29m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. However, it doesn't help that it burned through CN¥168m of cash over the last year. So suffice it to say we do consider the stock to be risky. For riskier companies like Hunan Corun New Energy I always like to keep an eye on the long term profit and revenue trends. Fortunately, you can click to see our interactive graph of its profit, revenue, and operating cashflow.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com