Is Guangzhou Pearl River Piano GroupLtd (SZSE:002678) Using Debt Sensibly?

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 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. Importantly, Guangzhou Pearl River Piano Group Co.,Ltd (SZSE:002678) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. If things get really bad, the lenders can take control of the business. 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. 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 think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Guangzhou Pearl River Piano GroupLtd

What Is Guangzhou Pearl River Piano GroupLtd's Debt?

As you can see below, Guangzhou Pearl River Piano GroupLtd had CN¥131.3m of debt at September 2024, down from CN¥418.5m a year prior. However, its balance sheet shows it holds CN¥906.3m in cash, so it actually has CN¥775.0m net cash.

A Look At Guangzhou Pearl River Piano GroupLtd's Liabilities

According to the last reported balance sheet, Guangzhou Pearl River Piano GroupLtd had liabilities of CN¥380.9m due within 12 months, and liabilities of CN¥147.9m due beyond 12 months. Offsetting this, it had CN¥906.3m in cash and CN¥206.3m in receivables that were due within 12 months. So it actually has CN¥583.8m more liquid assets than total liabilities.

This surplus suggests that Guangzhou Pearl River Piano GroupLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Guangzhou Pearl River Piano GroupLtd has more cash than debt is arguably a good indication that it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But it is Guangzhou Pearl River Piano GroupLtd's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Over 12 months, Guangzhou Pearl River Piano GroupLtd made a loss at the EBIT level, and saw its revenue drop to CN¥753m, which is a fall of 40%. That makes us nervous, to say the least.

So How Risky Is Guangzhou Pearl River Piano GroupLtd?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And we do note that Guangzhou Pearl River Piano GroupLtd had an earnings before interest and tax (EBIT) loss, over the last year. And over the same period it saw negative free cash outflow of CN¥411m and booked a CN¥139m accounting loss. Given it only has net cash of CN¥775.0m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. 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. For example - Guangzhou Pearl River Piano GroupLtd has 1 warning sign we think you should be aware of.

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.