Is Sichuan Lutianhua Company Limited By Shares (SZSE:000912) A Risky Investment?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 note that Sichuan Lutianhua Company Limited By Shares (SZSE:000912) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Sichuan Lutianhua Company Limited By Shares

What Is Sichuan Lutianhua Company Limited By Shares's Debt?

As you can see below, Sichuan Lutianhua Company Limited By Shares had CN¥552.0m of debt at June 2024, down from CN¥769.2m a year prior. But on the other hand it also has CN¥3.78b in cash, leading to a CN¥3.23b net cash position.

A Look At Sichuan Lutianhua Company Limited By Shares' Liabilities

We can see from the most recent balance sheet that Sichuan Lutianhua Company Limited By Shares had liabilities of CN¥2.97b falling due within a year, and liabilities of CN¥589.3m due beyond that. On the other hand, it had cash of CN¥3.78b and CN¥150.7m worth of receivables due within a year. So it can boast CN¥373.4m more liquid assets than total liabilities.

This surplus suggests that Sichuan Lutianhua Company Limited By Shares has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Sichuan Lutianhua Company Limited By Shares boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Sichuan Lutianhua Company Limited By Shares saw its EBIT drop by 9.4% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Sichuan Lutianhua Company Limited By Shares 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Sichuan Lutianhua Company Limited By Shares 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. Over the last three years, Sichuan Lutianhua Company Limited By Shares actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Sichuan Lutianhua Company Limited By Shares has net cash of CN¥3.23b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥585m, being 188% of its EBIT. So is Sichuan Lutianhua Company Limited By Shares's debt a risk? It doesn't seem so to us. 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. For example, we've discovered 1 warning sign for Sichuan Lutianhua Company Limited By Shares that you should be aware of before investing here.

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.