Does Guizhou Zhenhua Fengguang Semiconductor (SHSE:688439) 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. As with many other companies Guizhou Zhenhua Fengguang Semiconductor Co., Ltd. (SHSE:688439) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is Guizhou Zhenhua Fengguang Semiconductor's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2024 Guizhou Zhenhua Fengguang Semiconductor had debt of CN¥141.9m, up from CN¥77.0m in one year. However, its balance sheet shows it holds CN¥2.19b in cash, so it actually has CN¥2.05b net cash.

How Healthy Is Guizhou Zhenhua Fengguang Semiconductor's Balance Sheet?

The latest balance sheet data shows that Guizhou Zhenhua Fengguang Semiconductor had liabilities of CN¥510.3m due within a year, and liabilities of CN¥118.5m falling due after that. Offsetting these obligations, it had cash of CN¥2.19b as well as receivables valued at CN¥1.86b due within 12 months. So it actually has CN¥3.42b more liquid assets than total liabilities.

This excess liquidity suggests that Guizhou Zhenhua Fengguang Semiconductor is taking a careful approach to debt. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Succinctly put, Guizhou Zhenhua Fengguang Semiconductor boasts net cash, so it's fair to say it does not have a heavy debt load!

Check out our latest analysis for Guizhou Zhenhua Fengguang Semiconductor

The modesty of its debt load may become crucial for Guizhou Zhenhua Fengguang Semiconductor if management cannot prevent a repeat of the 39% cut to EBIT over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Guizhou Zhenhua Fengguang Semiconductor's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Guizhou Zhenhua Fengguang Semiconductor 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, Guizhou Zhenhua Fengguang Semiconductor 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 it is always sensible to investigate a company's debt, in this case Guizhou Zhenhua Fengguang Semiconductor has CN¥2.05b in net cash and a decent-looking balance sheet. So we are not troubled with Guizhou Zhenhua Fengguang Semiconductor's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 2 warning signs we've spotted with Guizhou Zhenhua Fengguang Semiconductor .

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.