Guangzhou Sanfu New Materials TechnologyLtd (SHSE:688359) Is Carrying A Fair Bit Of Debt

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. As with many other companies Guangzhou Sanfu New Materials Technology Co.,Ltd (SHSE:688359) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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, 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.

See our latest analysis for Guangzhou Sanfu New Materials TechnologyLtd

What Is Guangzhou Sanfu New Materials TechnologyLtd's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Guangzhou Sanfu New Materials TechnologyLtd had CN¥303.4m of debt, an increase on CN¥141.3m, over one year. However, because it has a cash reserve of CN¥81.4m, its net debt is less, at about CN¥222.0m.

How Healthy Is Guangzhou Sanfu New Materials TechnologyLtd's Balance Sheet?

According to the last reported balance sheet, Guangzhou Sanfu New Materials TechnologyLtd had liabilities of CN¥468.5m due within 12 months, and liabilities of CN¥185.2m due beyond 12 months. On the other hand, it had cash of CN¥81.4m and CN¥461.4m worth of receivables due within a year. So its liabilities total CN¥110.9m more than the combination of its cash and short-term receivables.

Of course, Guangzhou Sanfu New Materials TechnologyLtd has a market capitalization of CN¥4.53b, 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. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Guangzhou Sanfu New Materials TechnologyLtd will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Guangzhou Sanfu New Materials TechnologyLtd reported revenue of CN¥600m, which is a gain of 65%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.

Caveat Emptor

Despite the top line growth, Guangzhou Sanfu New Materials TechnologyLtd still had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost CN¥8.3m at the EBIT level. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled CN¥125m in negative free cash flow over the last twelve months. So suffice it to say we do consider the stock to be risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 2 warning signs for Guangzhou Sanfu New Materials TechnologyLtd you should be aware of, and 1 of them shouldn't be ignored.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.