Is Zhuhai Enpower ElectricLtd (SZSE:300681) Using Too Much Debt?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Zhuhai Enpower Electric Co.,Ltd. (SZSE:300681) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Zhuhai Enpower ElectricLtd

What Is Zhuhai Enpower ElectricLtd's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Zhuhai Enpower ElectricLtd had CN¥781.5m of debt in September 2024, down from CN¥1.04b, one year before. However, its balance sheet shows it holds CN¥840.3m in cash, so it actually has CN¥58.8m net cash.

How Strong Is Zhuhai Enpower ElectricLtd's Balance Sheet?

The latest balance sheet data shows that Zhuhai Enpower ElectricLtd had liabilities of CN¥1.90b due within a year, and liabilities of CN¥708.0m falling due after that. Offsetting this, it had CN¥840.3m in cash and CN¥752.8m in receivables that were due within 12 months. So its liabilities total CN¥1.02b more than the combination of its cash and short-term receivables.

Of course, Zhuhai Enpower ElectricLtd has a market capitalization of CN¥6.01b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Zhuhai Enpower ElectricLtd also has more cash than debt, so we're pretty confident it can manage its debt safely.

Although Zhuhai Enpower ElectricLtd made a loss at the EBIT level, last year, it was also good to see that it generated CN¥28m in EBIT over the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Zhuhai Enpower 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. While Zhuhai Enpower ElectricLtd 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. Looking at the most recent year, Zhuhai Enpower ElectricLtd recorded free cash flow of 31% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

Although Zhuhai Enpower ElectricLtd'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¥58.8m. So we don't have any problem with Zhuhai Enpower ElectricLtd's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Zhuhai Enpower ElectricLtd you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.