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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Xinxiang Richful Lube Additive Co.,Ltd. (SZSE:300910) does have debt on its balance sheet. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is Xinxiang Richful Lube AdditiveLtd's Net Debt?

As you can see below, at the end of December 2023, Xinxiang Richful Lube AdditiveLtd had CN¥89.8m of debt, up from none a year ago. Click the image for more detail. However, its balance sheet shows it holds CN¥1.63b in cash, so it actually has CN¥1.54b net cash.

How Healthy Is Xinxiang Richful Lube AdditiveLtd's Balance Sheet?

We can see from the most recent balance sheet that Xinxiang Richful Lube AdditiveLtd had liabilities of CN¥524.9m falling due within a year, and liabilities of CN¥100.5m due beyond that. Offsetting this, it had CN¥1.63b in cash and CN¥384.0m 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 Xinxiang Richful Lube AdditiveLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Xinxiang Richful Lube AdditiveLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

And we also note warmly that Xinxiang Richful Lube AdditiveLtd grew its EBIT by 10% last year, making its debt load easier to handle. 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 Xinxiang Richful Lube AdditiveLtd'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Xinxiang Richful Lube AdditiveLtd 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. Looking at the most recent three years, Xinxiang Richful Lube AdditiveLtd recorded free cash flow of 40% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Xinxiang Richful Lube AdditiveLtd has net cash of CN¥1.54b, as well as more liquid assets than liabilities. And it also grew its EBIT by 10% over the last year. So is Xinxiang Richful Lube AdditiveLtd's debt a risk? It doesn't seem so to us. 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. We've identified 3 warning signs with Xinxiang Richful Lube AdditiveLtd (at least 1 which can't be ignored) , and understanding them should be part of your investment process.

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.

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