These 4 Measures Indicate That HUAYU Automotive Systems (SHSE:600741) Is Using Debt Reasonably Well

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. We can see that HUAYU Automotive Systems Company Limited (SHSE:600741) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. 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 HUAYU Automotive Systems

What Is HUAYU Automotive Systems's Net Debt?

The chart below, which you can click on for greater detail, shows that HUAYU Automotive Systems had CN¥16.4b in debt in September 2024; about the same as the year before. However, its balance sheet shows it holds CN¥33.9b in cash, so it actually has CN¥17.6b net cash.

How Strong Is HUAYU Automotive Systems' Balance Sheet?

According to the last reported balance sheet, HUAYU Automotive Systems had liabilities of CN¥106.9b due within 12 months, and liabilities of CN¥9.75b due beyond 12 months. On the other hand, it had cash of CN¥33.9b and CN¥54.8b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥27.9b.

HUAYU Automotive Systems has a market capitalization of CN¥54.1b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, HUAYU Automotive Systems also has more cash than debt, so we're pretty confident it can manage its debt safely.

Also good is that HUAYU Automotive Systems grew its EBIT at 15% over the last year, further increasing its ability to manage debt. 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 HUAYU Automotive Systems'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While HUAYU Automotive Systems 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. During the last three years, HUAYU Automotive Systems generated free cash flow amounting to a very robust 83% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

Although HUAYU Automotive Systems's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥17.6b. And it impressed us with free cash flow of CN¥5.4b, being 83% of its EBIT. So is HUAYU Automotive Systems's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example - HUAYU Automotive Systems has 1 warning sign we think 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.