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.' 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 can see that Shandong New Beiyang Information Technology Co., Ltd. (SZSE:002376) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is Shandong New Beiyang Information Technology's Net Debt?

As you can see below, Shandong New Beiyang Information Technology had CN¥1.28b of debt at September 2023, down from CN¥1.75b a year prior. On the flip side, it has CN¥638.8m in cash leading to net debt of about CN¥636.3m.

How Strong Is Shandong New Beiyang Information Technology's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Shandong New Beiyang Information Technology had liabilities of CN¥1.10b due within 12 months and liabilities of CN¥891.5m due beyond that. Offsetting this, it had CN¥638.8m in cash and CN¥779.2m in receivables that were due within 12 months. So it has liabilities totalling CN¥572.3m more than its cash and near-term receivables, combined.

Of course, Shandong New Beiyang Information Technology has a market capitalization of CN¥4.09b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Shandong New Beiyang Information Technology 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.

In the last year Shandong New Beiyang Information Technology had a loss before interest and tax, and actually shrunk its revenue by 11%, to CN¥2.2b. That's not what we would hope to see.

Caveat Emptor

Not only did Shandong New Beiyang Information Technology'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¥55m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. For example, we would not want to see a repeat of last year's loss of CN¥45m. In the meantime, we consider the stock very risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Shandong New Beiyang Information Technology has 2 warning signs (and 1 which is significant) we think 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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