Does Foshan Electrical and LightingLtd (SZSE:000541) Have A Healthy Balance Sheet?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Foshan Electrical and Lighting Co.,Ltd (SZSE:000541) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Foshan Electrical and LightingLtd

How Much Debt Does Foshan Electrical and LightingLtd Carry?

As you can see below, at the end of June 2024, Foshan Electrical and LightingLtd had CN¥776.0m of debt, up from CN¥744.4m a year ago. Click the image for more detail. But it also has CN¥2.81b in cash to offset that, meaning it has CN¥2.03b net cash.

How Healthy Is Foshan Electrical and LightingLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Foshan Electrical and LightingLtd had liabilities of CN¥6.75b due within 12 months and liabilities of CN¥527.2m due beyond that. Offsetting this, it had CN¥2.81b in cash and CN¥3.78b in receivables that were due within 12 months. So its liabilities total CN¥696.9m more than the combination of its cash and short-term receivables.

Since publicly traded Foshan Electrical and LightingLtd shares are worth a total of CN¥7.05b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Foshan Electrical and LightingLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact Foshan Electrical and LightingLtd's saving grace is its low debt levels, because its EBIT has tanked 35% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Foshan Electrical and LightingLtd can strengthen its balance sheet over time. 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 Foshan Electrical and LightingLtd 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, Foshan Electrical and LightingLtd actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

We could understand if investors are concerned about Foshan Electrical and LightingLtd's liabilities, but we can be reassured by the fact it has has net cash of CN¥2.03b. And it impressed us with free cash flow of CN¥744m, being 103% of its EBIT. So we are not troubled with Foshan Electrical and LightingLtd's debt use. 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 Foshan Electrical and LightingLtd is showing 3 warning signs in our investment analysis , you should know about...

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.