Is Zhejiang Sunriver Culture TourismLtd (SHSE:600576) A Risky Investment?

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Zhejiang Sunriver Culture Tourism Co.,Ltd. (SHSE:600576) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Zhejiang Sunriver Culture TourismLtd

What Is Zhejiang Sunriver Culture TourismLtd's Debt?

You can click the graphic below for the historical numbers, but it shows that Zhejiang Sunriver Culture TourismLtd had CN¥393.6m of debt in September 2024, down from CN¥414.8m, one year before. However, because it has a cash reserve of CN¥194.5m, its net debt is less, at about CN¥199.2m.

A Look At Zhejiang Sunriver Culture TourismLtd's Liabilities

We can see from the most recent balance sheet that Zhejiang Sunriver Culture TourismLtd had liabilities of CN¥657.1m falling due within a year, and liabilities of CN¥502.0m due beyond that. On the other hand, it had cash of CN¥194.5m and CN¥135.1m worth of receivables due within a year. So it has liabilities totalling CN¥829.6m more than its cash and near-term receivables, combined.

Since publicly traded Zhejiang Sunriver Culture TourismLtd shares are worth a total of CN¥8.19b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Zhejiang Sunriver Culture TourismLtd has net debt of just 0.71 times EBITDA, indicating that it is certainly not a reckless borrower. And this view is supported by the solid interest coverage, with EBIT coming in at 7.1 times the interest expense over the last year. Even more impressive was the fact that Zhejiang Sunriver Culture TourismLtd grew its EBIT by 126% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. There's no doubt that we learn most about debt from the balance sheet. But it is Zhejiang Sunriver Culture TourismLtd's earnings that will influence how the balance sheet holds up in the future. 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. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Zhejiang Sunriver Culture TourismLtd actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Our View

Happily, Zhejiang Sunriver Culture TourismLtd's impressive conversion of EBIT to free cash flow implies it has the upper hand on its debt. And the good news does not stop there, as its EBIT growth rate also supports that impression! Considering this range of factors, it seems to us that Zhejiang Sunriver Culture TourismLtd is quite prudent with its debt, and the risks seem well managed. So the balance sheet looks pretty healthy, to us. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Zhejiang Sunriver Culture TourismLtd's earnings per share history for free.

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.