Yuneng Technology (SHSE:688348) Seems To Use Debt Quite Sensibly

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 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 can see that Yuneng Technology Co., Ltd. (SHSE:688348) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, 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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Yuneng Technology

What Is Yuneng Technology's Net Debt?

The image below, which you can click on for greater detail, shows that Yuneng Technology had debt of CN¥506.5m at the end of September 2024, a reduction from CN¥1.12b over a year. However, its balance sheet shows it holds CN¥2.17b in cash, so it actually has CN¥1.66b net cash.

How Strong Is Yuneng Technology's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Yuneng Technology had liabilities of CN¥1.06b due within 12 months and liabilities of CN¥123.4m due beyond that. Offsetting these obligations, it had cash of CN¥2.17b as well as receivables valued at CN¥609.6m due within 12 months. So it can boast CN¥1.60b more liquid assets than total liabilities.

It's good to see that Yuneng Technology 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. Succinctly put, Yuneng Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact Yuneng Technology's saving grace is its low debt levels, because its EBIT has tanked 41% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. 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 Yuneng 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 company can only pay off debt with cold hard cash, not accounting profits. While Yuneng Technology 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, Yuneng Technology saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing Up

While it is always sensible to investigate a company's debt, in this case Yuneng Technology has CN¥1.66b in net cash and a decent-looking balance sheet. So we are not troubled with Yuneng Technology's debt use. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 2 warning signs for Yuneng Technology that you should be aware of before investing here.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.