Is Xiamen Solex High-tech Industries (SHSE:603992) Using Too Much Debt?

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 Xiamen Solex High-tech Industries Co., Ltd. (SHSE:603992) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. 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. 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 examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Xiamen Solex High-tech Industries

How Much Debt Does Xiamen Solex High-tech Industries Carry?

As you can see below, Xiamen Solex High-tech Industries had CN¥610.6m of debt, at September 2024, which is about the same as the year before. You can click the chart for greater detail. But it also has CN¥1.62b in cash to offset that, meaning it has CN¥1.01b net cash.

How Healthy Is Xiamen Solex High-tech Industries' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Xiamen Solex High-tech Industries had liabilities of CN¥752.1m due within 12 months and liabilities of CN¥679.9m due beyond that. On the other hand, it had cash of CN¥1.62b and CN¥565.8m worth of receivables due within a year. So it can boast CN¥757.8m more liquid assets than total liabilities.

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

And we also note warmly that Xiamen Solex High-tech Industries grew its EBIT by 15% last year, making its debt load easier to handle. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Xiamen Solex High-tech Industries's ability to maintain a healthy balance sheet going forward. 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 Xiamen Solex High-tech Industries 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. During the last three years, Xiamen Solex High-tech Industries generated free cash flow amounting to a very robust 94% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Xiamen Solex High-tech Industries has net cash of CN¥1.01b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥397m, being 94% of its EBIT. So we don't think Xiamen Solex High-tech Industries's use of debt is risky. 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. Be aware that Xiamen Solex High-tech Industries is showing 2 warning signs in our investment analysis , you should know about...

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.