Does Haining China Leather MarketLtd (SZSE:002344) Have A Healthy Balance Sheet?

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.' 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 Haining China Leather Market Co.,Ltd (SZSE:002344) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Haining China Leather MarketLtd

What Is Haining China Leather MarketLtd's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Haining China Leather MarketLtd had CN¥896.8m of debt in September 2024, down from CN¥1.93b, one year before. However, it does have CN¥1.08b in cash offsetting this, leading to net cash of CN¥187.7m.

How Healthy Is Haining China Leather MarketLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Haining China Leather MarketLtd had liabilities of CN¥3.12b due within 12 months and liabilities of CN¥1.45b due beyond that. On the other hand, it had cash of CN¥1.08b and CN¥659.3m worth of receivables due within a year. So its liabilities total CN¥2.82b more than the combination of its cash and short-term receivables.

Haining China Leather MarketLtd has a market capitalization of CN¥5.73b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Haining China Leather MarketLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for Haining China Leather MarketLtd if management cannot prevent a repeat of the 61% 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 future earnings, more than anything, that will determine Haining China Leather MarketLtd's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Haining China Leather MarketLtd 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, Haining China Leather MarketLtd saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing Up

While Haining China Leather MarketLtd does have more liabilities than liquid assets, it also has net cash of CN¥187.7m. Despite its cash we think that Haining China Leather MarketLtd seems to struggle to grow its EBIT, so we are wary of the stock. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Haining China Leather MarketLtd has 3 warning signs (and 1 which can't be ignored) we think you should know about.

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.