Is Yindu Kitchen Equipment (SHSE:603277) Using Too Much Debt?

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Yindu Kitchen Equipment Co., Ltd (SHSE:603277) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Yindu Kitchen Equipment

What Is Yindu Kitchen Equipment's Debt?

As you can see below, at the end of September 2024, Yindu Kitchen Equipment had CN¥348.8m of debt, up from CN¥215.8m a year ago. Click the image for more detail. However, it does have CN¥1.49b in cash offsetting this, leading to net cash of CN¥1.15b.

How Healthy Is Yindu Kitchen Equipment's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Yindu Kitchen Equipment had liabilities of CN¥1.06b due within 12 months and liabilities of CN¥343.8m due beyond that. On the other hand, it had cash of CN¥1.49b and CN¥369.2m worth of receivables due within a year. So it actually has CN¥458.6m more liquid assets than total liabilities.

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

Another good sign is that Yindu Kitchen Equipment has been able to increase its EBIT by 27% in twelve months, making it easier to pay down debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Yindu Kitchen Equipment can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Yindu Kitchen Equipment 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 most recent three years, Yindu Kitchen Equipment recorded free cash flow worth 80% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Yindu Kitchen Equipment has net cash of CN¥1.15b, as well as more liquid assets than liabilities. The cherry on top was that in converted 80% of that EBIT to free cash flow, bringing in CN¥369m. So we don't think Yindu Kitchen Equipment'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. For instance, we've identified 1 warning sign for Yindu Kitchen Equipment that you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.