GuangZhou Wahlap Technology (SZSE:301011) Seems To Use Debt Rather Sparingly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that GuangZhou Wahlap Technology Corporation Limited (SZSE:301011) does use debt in its business. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. 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, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for GuangZhou Wahlap Technology

What Is GuangZhou Wahlap Technology's Net Debt?

As you can see below, GuangZhou Wahlap Technology had CN¥84.2m of debt at September 2024, down from CN¥121.4m a year prior. However, it does have CN¥180.7m in cash offsetting this, leading to net cash of CN¥96.6m.

How Healthy Is GuangZhou Wahlap Technology's Balance Sheet?

We can see from the most recent balance sheet that GuangZhou Wahlap Technology had liabilities of CN¥480.2m falling due within a year, and liabilities of CN¥91.8m due beyond that. Offsetting these obligations, it had cash of CN¥180.7m as well as receivables valued at CN¥294.1m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥97.2m.

Of course, GuangZhou Wahlap Technology has a market capitalization of CN¥3.92b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, GuangZhou Wahlap Technology also has more cash than debt, so we're pretty confident it can manage its debt safely.

Even more impressive was the fact that GuangZhou Wahlap Technology grew its EBIT by 442% over twelve months. That boost will make it even easier to pay down debt going forward. The balance sheet is clearly the area to focus on when you are analysing debt. But it is GuangZhou Wahlap 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 GuangZhou Wahlap 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. Happily for any shareholders, GuangZhou Wahlap Technology 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 it is always sensible to look at a company's total liabilities, it is very reassuring that GuangZhou Wahlap Technology has CN¥96.6m in net cash. The cherry on top was that in converted 131% of that EBIT to free cash flow, bringing in CN¥165m. So is GuangZhou Wahlap Technology's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example GuangZhou Wahlap Technology has 3 warning signs (and 1 which is concerning) we think you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.