Is Shenzhen Han's CNC Technology (SZSE:301200) Using Too Much 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.' 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 note that Shenzhen Han's CNC Technology Co., Ltd. (SZSE:301200) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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, 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.

View our latest analysis for Shenzhen Han's CNC Technology

How Much Debt Does Shenzhen Han's CNC Technology Carry?

The image below, which you can click on for greater detail, shows that at March 2024 Shenzhen Han's CNC Technology had debt of CN¥568.5m, up from CN¥3.96m in one year. But on the other hand it also has CN¥2.22b in cash, leading to a CN¥1.65b net cash position.

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

Zooming in on the latest balance sheet data, we can see that Shenzhen Han's CNC Technology had liabilities of CN¥1.82b due within 12 months and liabilities of CN¥62.7m due beyond that. Offsetting these obligations, it had cash of CN¥2.22b as well as receivables valued at CN¥2.17b due within 12 months. So it actually has CN¥2.51b more liquid assets than total liabilities.

It's good to see that Shenzhen Han's CNC Technology 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. Simply put, the fact that Shenzhen Han's CNC Technology has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that Shenzhen Han's CNC Technology's load is not too heavy, because its EBIT was down 80% over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. 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 Shenzhen Han's CNC Technology 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. 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 24% 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 Shenzhen Han's CNC Technology has net cash of CN¥1.65b, as well as more liquid assets than liabilities. So we are not troubled with Shenzhen Han's CNC Technology'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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Shenzhen Han's CNC Technology (of which 1 is significant!) you should know about.

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.

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