These 4 Measures Indicate That Shenzhen Han's CNC Technology (SZSE:301200) Is Using Debt Reasonably Well

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Shenzhen Han's CNC Technology Co., Ltd. (SZSE:301200) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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 examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Shenzhen Han's CNC Technology

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

You can click the graphic below for the historical numbers, but it shows that Shenzhen Han's CNC Technology had CN¥39.0m of debt in September 2023, down from CN¥41.8m, one year before. However, its balance sheet shows it holds CN¥2.19b in cash, so it actually has CN¥2.15b net cash.

A Look At Shenzhen Han's CNC Technology's Liabilities

According to the last reported balance sheet, Shenzhen Han's CNC Technology had liabilities of CN¥999.6m due within 12 months, and liabilities of CN¥78.1m due beyond 12 months. Offsetting these obligations, it had cash of CN¥2.19b as well as receivables valued at CN¥1.89b due within 12 months. So it actually has CN¥3.00b 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. 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 72% cut to EBIT over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But it is Shenzhen Han's CNC Technology's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Shenzhen Han's CNC Technology 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, Shenzhen Han's CNC Technology's free cash flow amounted to 26% 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 Shenzhen Han's CNC Technology has CN¥2.15b in net cash and a decent-looking balance sheet. So we are not troubled with Shenzhen Han's CNC Technology's debt use. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 3 warning signs for Shenzhen Han's CNC Technology you should be aware of, and 1 of them is significant.

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.