Does Qingdao Hanhe CableLtd (SZSE:002498) Have A Healthy Balance Sheet?

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 Qingdao Hanhe Cable Co.,Ltd (SZSE:002498) does use debt in its business. But should shareholders be worried about its use of debt?

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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Qingdao Hanhe CableLtd

What Is Qingdao Hanhe CableLtd's Debt?

The image below, which you can click on for greater detail, shows that at September 2024 Qingdao Hanhe CableLtd had debt of CN¥2.64b, up from CN¥961.2m in one year. But on the other hand it also has CN¥3.11b in cash, leading to a CN¥476.0m net cash position.

How Healthy Is Qingdao Hanhe CableLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Qingdao Hanhe CableLtd had liabilities of CN¥4.15b due within 12 months and liabilities of CN¥131.6m due beyond that. On the other hand, it had cash of CN¥3.11b and CN¥4.06b worth of receivables due within a year. So it actually has CN¥2.90b more liquid assets than total liabilities.

It's good to see that Qingdao Hanhe CableLtd 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, Qingdao Hanhe CableLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Qingdao Hanhe CableLtd's load is not too heavy, because its EBIT was down 31% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Qingdao Hanhe CableLtd 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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Qingdao Hanhe CableLtd 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. In the last three years, Qingdao Hanhe CableLtd's free cash flow amounted to 39% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Qingdao Hanhe CableLtd has net cash of CN¥476.0m, as well as more liquid assets than liabilities. So we don't have any problem with Qingdao Hanhe CableLtd's use of debt. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Qingdao Hanhe CableLtd you should know about.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.