Is Zhang Jia Gang Freetrade Science&Technology GroupLtd (SHSE:600794) A Risky Investment?

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Zhang Jia Gang Freetrade Science&Technology Group Co.,Ltd. (SHSE:600794) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

View our latest analysis for Zhang Jia Gang Freetrade Science&Technology GroupLtd

What Is Zhang Jia Gang Freetrade Science&Technology GroupLtd's Net Debt?

The image below, which you can click on for greater detail, shows that at June 2024 Zhang Jia Gang Freetrade Science&Technology GroupLtd had debt of CN¥410.9m, up from CN¥303.9m in one year. But it also has CN¥1.15b in cash to offset that, meaning it has CN¥738.4m net cash.

A Look At Zhang Jia Gang Freetrade Science&Technology GroupLtd's Liabilities

Zooming in on the latest balance sheet data, we can see that Zhang Jia Gang Freetrade Science&Technology GroupLtd had liabilities of CN¥1.05b due within 12 months and liabilities of CN¥206.8m due beyond that. Offsetting this, it had CN¥1.15b in cash and CN¥934.0m in receivables that were due within 12 months. So it actually has CN¥830.9m more liquid assets than total liabilities.

It's good to see that Zhang Jia Gang Freetrade Science&Technology GroupLtd has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Zhang Jia Gang Freetrade Science&Technology GroupLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

Also good is that Zhang Jia Gang Freetrade Science&Technology GroupLtd grew its EBIT at 13% over the last year, further increasing its ability to manage debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Zhang Jia Gang Freetrade Science&Technology GroupLtd'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Zhang Jia Gang Freetrade Science&Technology GroupLtd 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. Over the last three years, Zhang Jia Gang Freetrade Science&Technology GroupLtd actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Zhang Jia Gang Freetrade Science&Technology GroupLtd has net cash of CN¥738.4m, as well as more liquid assets than liabilities. The cherry on top was that in converted 150% of that EBIT to free cash flow, bringing in CN¥628m. So we don't think Zhang Jia Gang Freetrade Science&Technology GroupLtd's use of debt is risky. 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. We've identified 1 warning sign with Zhang Jia Gang Freetrade Science&Technology GroupLtd , 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.

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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.