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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Jiangsu Yunyi Electric Co.,Ltd. (SZSE:300304) does carry debt. But is this debt a concern to shareholders?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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.
View our latest analysis for Jiangsu Yunyi ElectricLtd
How Much Debt Does Jiangsu Yunyi ElectricLtd Carry?
You can click the graphic below for the historical numbers, but it shows that Jiangsu Yunyi ElectricLtd had CN¥35.0m of debt in September 2023, down from CN¥66.1m, one year before. But on the other hand it also has CN¥1.65b in cash, leading to a CN¥1.61b net cash position.
How Healthy Is Jiangsu Yunyi ElectricLtd's Balance Sheet?
According to the last reported balance sheet, Jiangsu Yunyi ElectricLtd had liabilities of CN¥663.1m due within 12 months, and liabilities of CN¥134.4m due beyond 12 months. Offsetting this, it had CN¥1.65b in cash and CN¥543.7m in receivables that were due within 12 months. So it actually has CN¥1.39b more liquid assets than total liabilities.
This surplus suggests that Jiangsu Yunyi ElectricLtd is using debt in a way that is appears to be both safe and conservative. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that Jiangsu Yunyi ElectricLtd has more cash than debt is arguably a good indication that it can manage its debt safely.
Another good sign is that Jiangsu Yunyi ElectricLtd has been able to increase its EBIT by 22% in twelve months, making it easier to pay down debt. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Jiangsu Yunyi ElectricLtd will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. Jiangsu Yunyi 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. Considering the last three years, Jiangsu Yunyi ElectricLtd actually recorded a cash outflow, overall. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.
Summing Up
While it is always sensible to investigate a company's debt, in this case Jiangsu Yunyi ElectricLtd has CN¥1.61b in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 22% over the last year. So we don't think Jiangsu Yunyi ElectricLtd's use of debt is risky. 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. For instance, we've identified 1 warning sign for Jiangsu Yunyi ElectricLtd 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.