These 4 Measures Indicate That Shenzhen Fuanna Bedding and FurnishingLtd (SZSE:002327) Is Using Debt Safely

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 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 note that Shenzhen Fuanna Bedding and Furnishing Co.,Ltd (SZSE:002327) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth 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 Fuanna Bedding and FurnishingLtd

What Is Shenzhen Fuanna Bedding and FurnishingLtd's Debt?

As you can see below, at the end of June 2024, Shenzhen Fuanna Bedding and FurnishingLtd had CN¥80.0m of debt, up from none a year ago. Click the image for more detail. But it also has CN¥1.33b in cash to offset that, meaning it has CN¥1.25b net cash.

How Strong Is Shenzhen Fuanna Bedding and FurnishingLtd's Balance Sheet?

We can see from the most recent balance sheet that Shenzhen Fuanna Bedding and FurnishingLtd had liabilities of CN¥813.8m falling due within a year, and liabilities of CN¥146.6m due beyond that. Offsetting this, it had CN¥1.33b in cash and CN¥303.4m in receivables that were due within 12 months. So it can boast CN¥670.9m more liquid assets than total liabilities.

This short term liquidity is a sign that Shenzhen Fuanna Bedding and FurnishingLtd could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Shenzhen Fuanna Bedding and FurnishingLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

Fortunately, Shenzhen Fuanna Bedding and FurnishingLtd grew its EBIT by 8.1% in the last year, making that debt load look even more manageable. 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 Shenzhen Fuanna Bedding and FurnishingLtd's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Shenzhen Fuanna Bedding and FurnishingLtd 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. Happily for any shareholders, Shenzhen Fuanna Bedding and FurnishingLtd actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Shenzhen Fuanna Bedding and FurnishingLtd has net cash of CN¥1.25b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥484m, being 111% of its EBIT. So we don't think Shenzhen Fuanna Bedding and FurnishingLtd'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. Case in point: We've spotted 1 warning sign for Shenzhen Fuanna Bedding and FurnishingLtd 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.

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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.