Shandong Kaisheng New MaterialsLtd (SZSE:301069) Takes On Some Risk With Its Use Of Debt

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. As with many other companies Shandong Kaisheng New Materials Co.,Ltd. (SZSE:301069) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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 examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Shandong Kaisheng New MaterialsLtd

What Is Shandong Kaisheng New MaterialsLtd's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2024 Shandong Kaisheng New MaterialsLtd had debt of CN¥505.7m, up from none in one year. However, it does have CN¥915.4m in cash offsetting this, leading to net cash of CN¥409.8m.

How Healthy Is Shandong Kaisheng New MaterialsLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Shandong Kaisheng New MaterialsLtd had liabilities of CN¥296.9m due within 12 months and liabilities of CN¥508.5m due beyond that. Offsetting this, it had CN¥915.4m in cash and CN¥285.9m in receivables that were due within 12 months. So it actually has CN¥395.9m more liquid assets than total liabilities.

This short term liquidity is a sign that Shandong Kaisheng New MaterialsLtd could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Shandong Kaisheng New MaterialsLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Shandong Kaisheng New MaterialsLtd's load is not too heavy, because its EBIT was down 55% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Shandong Kaisheng New MaterialsLtd 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Shandong Kaisheng New MaterialsLtd 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. Over the last three years, Shandong Kaisheng New MaterialsLtd recorded negative free cash flow, in total. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Shandong Kaisheng New MaterialsLtd has net cash of CN¥409.8m, as well as more liquid assets than liabilities. So although we see some areas for improvement, we're not too worried about Shandong Kaisheng New MaterialsLtd's balance sheet. 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 example Shandong Kaisheng New MaterialsLtd has 3 warning signs (and 1 which can't be ignored) we think you should know about.

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.