Here's Why Zhejiang Yuejian Intelligent EquipmentLtd (SHSE:603095) Can Manage Its Debt Responsibly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. Importantly, Zhejiang Yuejian Intelligent Equipment Co.,Ltd. (SHSE:603095) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Zhejiang Yuejian Intelligent EquipmentLtd

What Is Zhejiang Yuejian Intelligent EquipmentLtd's Net Debt?

The image below, which you can click on for greater detail, shows that Zhejiang Yuejian Intelligent EquipmentLtd had debt of CN¥83.9m at the end of September 2024, a reduction from CN¥90.0m over a year. But it also has CN¥1.35b in cash to offset that, meaning it has CN¥1.27b net cash.

How Strong Is Zhejiang Yuejian Intelligent EquipmentLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Zhejiang Yuejian Intelligent EquipmentLtd had liabilities of CN¥837.3m due within 12 months and liabilities of CN¥54.7m due beyond that. Offsetting this, it had CN¥1.35b in cash and CN¥524.0m in receivables that were due within 12 months. So it actually has CN¥983.6m more liquid assets than total liabilities.

It's good to see that Zhejiang Yuejian Intelligent EquipmentLtd 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 Zhejiang Yuejian Intelligent EquipmentLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Zhejiang Yuejian Intelligent EquipmentLtd's saving grace is its low debt levels, because its EBIT has tanked 23% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Zhejiang Yuejian Intelligent EquipmentLtd's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Zhejiang Yuejian Intelligent EquipmentLtd 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, Zhejiang Yuejian Intelligent EquipmentLtd reported free cash flow worth 3.6% of its EBIT, which is really quite low. That limp level of cash conversion undermines its ability to manage and pay down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Zhejiang Yuejian Intelligent EquipmentLtd has net cash of CN¥1.27b, as well as more liquid assets than liabilities. So we don't have any problem with Zhejiang Yuejian Intelligent EquipmentLtd's use of debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 4 warning signs for Zhejiang Yuejian Intelligent EquipmentLtd you should be aware of, and 1 of them is potentially serious.

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.