These 4 Measures Indicate That Hangzhou Greatstar Industrial (SZSE:002444) Is Using Debt Safely

Warren Buffett famously said, '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 Hangzhou Greatstar Industrial Co., Ltd (SZSE:002444) does have debt on its balance sheet. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Hangzhou Greatstar Industrial

How Much Debt Does Hangzhou Greatstar Industrial Carry?

The image below, which you can click on for greater detail, shows that Hangzhou Greatstar Industrial had debt of CN¥1.96b at the end of June 2024, a reduction from CN¥2.56b over a year. However, it does have CN¥5.34b in cash offsetting this, leading to net cash of CN¥3.38b.

How Healthy Is Hangzhou Greatstar Industrial's Balance Sheet?

According to the last reported balance sheet, Hangzhou Greatstar Industrial had liabilities of CN¥4.46b due within 12 months, and liabilities of CN¥456.1m due beyond 12 months. Offsetting this, it had CN¥5.34b in cash and CN¥3.06b in receivables that were due within 12 months. So it actually has CN¥3.49b more liquid assets than total liabilities.

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

Another good sign is that Hangzhou Greatstar Industrial has been able to increase its EBIT by 27% in twelve months, making it easier to pay down debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Hangzhou Greatstar Industrial 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. While Hangzhou Greatstar Industrial 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. Over the most recent three years, Hangzhou Greatstar Industrial recorded free cash flow worth 68% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Hangzhou Greatstar Industrial has net cash of CN¥3.38b, as well as more liquid assets than liabilities. And we liked the look of last year's 27% year-on-year EBIT growth. So we don't think Hangzhou Greatstar Industrial's use of debt is risky. 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. We've identified 1 warning sign with Hangzhou Greatstar Industrial , and understanding them should be part of your investment process.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.