Is Qingdao Hanhe CableLtd (SZSE:002498) A Risky Investment?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We note that Qingdao Hanhe Cable Co.,Ltd (SZSE:002498) does have debt on its balance sheet. But is this debt a concern to shareholders?

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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Qingdao Hanhe CableLtd

What Is Qingdao Hanhe CableLtd's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Qingdao Hanhe CableLtd had CN¥935.6m of debt, an increase on CN¥789.0m, over one year. But on the other hand it also has CN¥1.51b in cash, leading to a CN¥570.4m net cash position.

A Look At Qingdao Hanhe CableLtd's Liabilities

Zooming in on the latest balance sheet data, we can see that Qingdao Hanhe CableLtd had liabilities of CN¥2.35b due within 12 months and liabilities of CN¥142.6m due beyond that. Offsetting this, it had CN¥1.51b in cash and CN¥3.93b in receivables that were due within 12 months. So it actually has CN¥2.94b more liquid assets than total liabilities.

This excess liquidity suggests that Qingdao Hanhe CableLtd is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that Qingdao Hanhe CableLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

Fortunately, Qingdao Hanhe CableLtd grew its EBIT by 8.5% in the last year, making that debt load look even more manageable. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Qingdao Hanhe CableLtd can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Qingdao Hanhe CableLtd 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. In the last three years, Qingdao Hanhe CableLtd's free cash flow amounted to 22% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to investigate a company's debt, in this case Qingdao Hanhe CableLtd has CN¥570.4m in net cash and a decent-looking balance sheet. And it also grew its EBIT by 8.5% over the last year. So we don't think Qingdao Hanhe CableLtd's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 1 warning sign for Qingdao Hanhe CableLtd that you should be aware of.

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.