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 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. We note that Weifu High-Technology Group Co., Ltd. (SZSE:200581) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Weifu High-Technology Group

What Is Weifu High-Technology Group's Net Debt?

As you can see below, at the end of September 2022, Weifu High-Technology Group had CN¥4.14b of debt, up from CN¥1.22b a year ago. Click the image for more detail. However, its balance sheet shows it holds CN¥4.96b in cash, so it actually has CN¥823.8m net cash.

How Healthy Is Weifu High-Technology Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Weifu High-Technology Group had liabilities of CN¥11.2b due within 12 months and liabilities of CN¥624.2m due beyond that. On the other hand, it had cash of CN¥4.96b and CN¥7.44b worth of receivables due within a year. So it actually has CN¥536.0m more liquid assets than total liabilities.

This surplus suggests that Weifu High-Technology Group has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Weifu High-Technology Group has more cash than debt is arguably a good indication that it can manage its debt safely.

The modesty of its debt load may become crucial for Weifu High-Technology Group if management cannot prevent a repeat of the 27% cut to EBIT over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. 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 Weifu High-Technology Group's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Weifu High-Technology Group has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Weifu High-Technology Group saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing Up

While it is always sensible to investigate a company's debt, in this case Weifu High-Technology Group has CN¥823.8m in net cash and a decent-looking balance sheet. So while Weifu High-Technology Group does not have a great balance sheet, it's certainly not too bad. 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. For instance, we've identified 2 warning signs for Weifu High-Technology Group (1 is significant) you should be aware of.

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.