We Think NARI Technology (SHSE:600406) Can Manage Its Debt With Ease

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. We can see that NARI Technology Co., Ltd. (SHSE:600406) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.

Check out our latest analysis for NARI Technology

What Is NARI Technology's Net Debt?

As you can see below, at the end of September 2024, NARI Technology had CN¥642.8m of debt, up from CN¥500.5m a year ago. Click the image for more detail. But it also has CN¥17.8b in cash to offset that, meaning it has CN¥17.1b net cash.

How Strong Is NARI Technology's Balance Sheet?

According to the last reported balance sheet, NARI Technology had liabilities of CN¥33.8b due within 12 months, and liabilities of CN¥750.4m due beyond 12 months. Offsetting these obligations, it had cash of CN¥17.8b as well as receivables valued at CN¥33.3b due within 12 months. So it can boast CN¥16.5b more liquid assets than total liabilities.

This surplus suggests that NARI Technology has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that NARI Technology has more cash than debt is arguably a good indication that it can manage its debt safely.

Fortunately, NARI Technology grew its EBIT by 5.7% in the last year, making that debt load look even more manageable. 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 NARI Technology'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. NARI Technology 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, NARI Technology generated free cash flow amounting to a very robust 93% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case NARI Technology has CN¥17.1b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥9.5b, being 93% of its EBIT. So is NARI Technology'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. However, not all investment risk resides within the balance sheet - far from it. We've identified 1 warning sign with NARI Technology , and understanding them should be part of your investment process.

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.