We Think Zhejiang Sanhua Intelligent ControlsLtd (SZSE:002050) Can Stay On Top Of Its Debt

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.' 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 Sanhua Intelligent Controls Co.,Ltd (SZSE:002050) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Zhejiang Sanhua Intelligent ControlsLtd

How Much Debt Does Zhejiang Sanhua Intelligent ControlsLtd Carry?

The image below, which you can click on for greater detail, shows that at September 2024 Zhejiang Sanhua Intelligent ControlsLtd had debt of CN¥4.30b, up from CN¥3.73b in one year. But on the other hand it also has CN¥5.49b in cash, leading to a CN¥1.19b net cash position.

How Strong Is Zhejiang Sanhua Intelligent ControlsLtd's Balance Sheet?

The latest balance sheet data shows that Zhejiang Sanhua Intelligent ControlsLtd had liabilities of CN¥12.8b due within a year, and liabilities of CN¥3.02b falling due after that. Offsetting this, it had CN¥5.49b in cash and CN¥10.5b in receivables that were due within 12 months. So these liquid assets roughly match the total liabilities.

Having regard to Zhejiang Sanhua Intelligent ControlsLtd's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the CN¥89.8b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that Zhejiang Sanhua Intelligent ControlsLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

Fortunately, Zhejiang Sanhua Intelligent ControlsLtd grew its EBIT by 6.5% in the last year, making that debt load look even more manageable. 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 Zhejiang Sanhua Intelligent ControlsLtd'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Zhejiang Sanhua Intelligent ControlsLtd may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Zhejiang Sanhua Intelligent ControlsLtd barely recorded positive free cash flow, in total. Some might say that's a concern, when it comes considering how easily it would be for it to down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case Zhejiang Sanhua Intelligent ControlsLtd has CN¥1.19b in net cash and a decent-looking balance sheet. On top of that, it increased its EBIT by 6.5% in the last twelve months. So we are not troubled with Zhejiang Sanhua Intelligent ControlsLtd's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with Zhejiang Sanhua Intelligent ControlsLtd , and understanding them should be part of your investment process.

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.