We Think Shanghai Shuixing Home Textile (SHSE:603365) Can Manage Its Debt With Ease

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 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. We can see that Shanghai Shuixing Home Textile Co., Ltd. (SHSE:603365) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Shanghai Shuixing Home Textile

What Is Shanghai Shuixing Home Textile's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2024 Shanghai Shuixing Home Textile had debt of CN¥67.7m, up from CN¥50.4m in one year. However, it does have CN¥1.17b in cash offsetting this, leading to net cash of CN¥1.10b.

How Healthy Is Shanghai Shuixing Home Textile's Balance Sheet?

The latest balance sheet data shows that Shanghai Shuixing Home Textile had liabilities of CN¥648.1m due within a year, and liabilities of CN¥57.7m falling due after that. On the other hand, it had cash of CN¥1.17b and CN¥363.8m worth of receivables due within a year. So it actually has CN¥825.0m more liquid assets than total liabilities.

It's good to see that Shanghai Shuixing Home Textile 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, Shanghai Shuixing Home Textile boasts net cash, so it's fair to say it does not have a heavy debt load!

The good news is that Shanghai Shuixing Home Textile has increased its EBIT by 6.3% over twelve months, which should ease any concerns about debt repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Shanghai Shuixing Home Textile's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Shanghai Shuixing Home Textile 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. During the last three years, Shanghai Shuixing Home Textile generated free cash flow amounting to a very robust 97% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While it is always sensible to investigate a company's debt, in this case Shanghai Shuixing Home Textile has CN¥1.10b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 97% of that EBIT to free cash flow, bringing in CN¥110m. So we don't think Shanghai Shuixing Home Textile's use of debt is risky. 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 2 warning signs for Shanghai Shuixing Home Textile you should know about.

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.

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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.