Does Shenzhen Han's CNC Technology (SZSE:301200) Have A Healthy Balance Sheet?

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.' 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. Importantly, Shenzhen Han's CNC Technology Co., Ltd. (SZSE:301200) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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 Shenzhen Han's CNC Technology

What Is Shenzhen Han's CNC Technology's Net Debt?

As you can see below, at the end of September 2024, Shenzhen Han's CNC Technology had CN¥49.0m of debt, up from CN¥39.0m a year ago. Click the image for more detail. However, it does have CN¥1.17b in cash offsetting this, leading to net cash of CN¥1.13b.

How Strong Is Shenzhen Han's CNC Technology's Balance Sheet?

We can see from the most recent balance sheet that Shenzhen Han's CNC Technology had liabilities of CN¥1.69b falling due within a year, and liabilities of CN¥80.8m due beyond that. Offsetting this, it had CN¥1.17b in cash and CN¥2.73b in receivables that were due within 12 months. So it can boast CN¥2.13b more liquid assets than total liabilities.

This surplus suggests that Shenzhen Han's CNC Technology has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Shenzhen Han's CNC Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for Shenzhen Han's CNC Technology if management cannot prevent a repeat of the 32% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Shenzhen Han's CNC Technology 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. Shenzhen Han's CNC Technology 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, Shenzhen Han's CNC Technology's free cash flow amounted to 33% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case Shenzhen Han's CNC Technology has CN¥1.13b in net cash and a decent-looking balance sheet. So we don't have any problem with Shenzhen Han's CNC Technology's use of debt. 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. Case in point: We've spotted 1 warning sign for Shenzhen Han's CNC Technology you should be aware of.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.