Is Shanghai Labway Clinical Laboratory (SZSE:301060) Using Too Much Debt?

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. We can see that Shanghai Labway Clinical Laboratory Co., Ltd (SZSE:301060) does use debt in its business. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Shanghai Labway Clinical Laboratory

How Much Debt Does Shanghai Labway Clinical Laboratory Carry?

As you can see below, Shanghai Labway Clinical Laboratory had CN¥291.9m of debt at September 2024, down from CN¥358.1m a year prior. But on the other hand it also has CN¥684.8m in cash, leading to a CN¥393.0m net cash position.

How Strong Is Shanghai Labway Clinical Laboratory's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Shanghai Labway Clinical Laboratory had liabilities of CN¥584.5m due within 12 months and liabilities of CN¥171.8m due beyond that. Offsetting this, it had CN¥684.8m in cash and CN¥982.5m in receivables that were due within 12 months. So it can boast CN¥911.0m more liquid assets than total liabilities.

It's good to see that Shanghai Labway Clinical Laboratory 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 Labway Clinical Laboratory boasts net cash, so it's fair to say it does not have a heavy debt load! There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Shanghai Labway Clinical Laboratory will need earnings to service that debt. 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.

In the last year Shanghai Labway Clinical Laboratory had a loss before interest and tax, and actually shrunk its revenue by 27%, to CN¥1.7b. To be frank that doesn't bode well.

So How Risky Is Shanghai Labway Clinical Laboratory?

While Shanghai Labway Clinical Laboratory lost money on an earnings before interest and tax (EBIT) level, it actually generated positive free cash flow CN¥164m. So taking that on face value, and considering the net cash situation, we don't think that the stock is too risky in the near term. We'll feel more comfortable with the stock once EBIT is positive, given the lacklustre revenue growth. 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, we've discovered 1 warning sign for Shanghai Labway Clinical Laboratory that you should be aware of before investing here.

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.