Here's Why Cofoe Medical TechnologyLtd (SZSE:301087) Can Manage Its Debt Responsibly

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 Cofoe Medical Technology Co.,Ltd. (SZSE:301087) 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.

See our latest analysis for Cofoe Medical TechnologyLtd

What Is Cofoe Medical TechnologyLtd's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Cofoe Medical TechnologyLtd had CN¥647.1m of debt, an increase on CN¥454.1m, over one year. But on the other hand it also has CN¥2.61b in cash, leading to a CN¥1.96b net cash position.

How Strong Is Cofoe Medical TechnologyLtd's Balance Sheet?

The latest balance sheet data shows that Cofoe Medical TechnologyLtd had liabilities of CN¥1.16b due within a year, and liabilities of CN¥317.8m falling due after that. On the other hand, it had cash of CN¥2.61b and CN¥562.6m worth of receivables due within a year. So it can boast CN¥1.70b more liquid assets than total liabilities.

This excess liquidity suggests that Cofoe Medical TechnologyLtd is taking a careful approach to debt. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Simply put, the fact that Cofoe Medical TechnologyLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

The modesty of its debt load may become crucial for Cofoe Medical TechnologyLtd if management cannot prevent a repeat of the 56% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But it is Cofoe Medical TechnologyLtd'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Cofoe Medical TechnologyLtd 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. During the last three years, Cofoe Medical TechnologyLtd burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Cofoe Medical TechnologyLtd has net cash of CN¥1.96b, as well as more liquid assets than liabilities. So we don't have any problem with Cofoe Medical TechnologyLtd's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 3 warning signs for Cofoe Medical TechnologyLtd (2 don't sit too well with us) you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.