Shenzhen VMAX New Energy (SHSE:688612) Seems To Use Debt Quite Sensibly

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 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. As with many other companies Shenzhen VMAX New Energy Co., Ltd. (SHSE:688612) makes use of debt. But the more important question is: how much risk is that debt creating?

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. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Shenzhen VMAX New Energy

What Is Shenzhen VMAX New Energy's Net Debt?

As you can see below, Shenzhen VMAX New Energy had CN¥615.7m of debt at June 2024, down from CN¥679.1m a year prior. But it also has CN¥2.32b in cash to offset that, meaning it has CN¥1.70b net cash.

A Look At Shenzhen VMAX New Energy's Liabilities

Zooming in on the latest balance sheet data, we can see that Shenzhen VMAX New Energy had liabilities of CN¥3.12b due within 12 months and liabilities of CN¥357.8m due beyond that. Offsetting these obligations, it had cash of CN¥2.32b as well as receivables valued at CN¥1.91b due within 12 months. So it actually has CN¥753.6m more liquid assets than total liabilities.

This short term liquidity is a sign that Shenzhen VMAX New Energy could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Shenzhen VMAX New Energy has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Shenzhen VMAX New Energy has boosted its EBIT by 39%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Shenzhen VMAX New Energy'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, a company can only pay off debt with cold hard cash, not accounting profits. Shenzhen VMAX New Energy 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. During the last three years, Shenzhen VMAX New Energy burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Shenzhen VMAX New Energy has net cash of CN¥1.70b, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 39% over the last year. So we are not troubled with Shenzhen VMAX New Energy's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 2 warning signs we've spotted with Shenzhen VMAX New Energy (including 1 which is a bit concerning) .

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.