These 4 Measures Indicate That Guizhou Zhenhua Fengguang Semiconductor (SHSE:688439) Is Using Debt Reasonably Well

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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Guizhou Zhenhua Fengguang Semiconductor Co., Ltd. (SHSE:688439) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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.

View our latest analysis for Guizhou Zhenhua Fengguang Semiconductor

What Is Guizhou Zhenhua Fengguang Semiconductor's Debt?

As you can see below, Guizhou Zhenhua Fengguang Semiconductor had CN¥84.8m of debt at March 2024, down from CN¥105.2m a year prior. But on the other hand it also has CN¥2.38b in cash, leading to a CN¥2.30b net cash position.

A Look At Guizhou Zhenhua Fengguang Semiconductor's Liabilities

According to the last reported balance sheet, Guizhou Zhenhua Fengguang Semiconductor had liabilities of CN¥542.5m due within 12 months, and liabilities of CN¥115.7m due beyond 12 months. On the other hand, it had cash of CN¥2.38b and CN¥1.74b worth of receivables due within a year. So it actually has CN¥3.46b more liquid assets than total liabilities.

This excess liquidity is a great indication that Guizhou Zhenhua Fengguang Semiconductor's balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. Simply put, the fact that Guizhou Zhenhua Fengguang Semiconductor has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Guizhou Zhenhua Fengguang Semiconductor has boosted its EBIT by 54%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. 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 want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Guizhou Zhenhua Fengguang Semiconductor 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, 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¥2.30b in net cash and a decent-looking balance sheet. And we liked the look of last year's 54% year-on-year EBIT growth. So is Guizhou Zhenhua Fengguang Semiconductor's debt a risk? It doesn't seem so to us. 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, we've discovered 2 warning signs for Guizhou Zhenhua Fengguang Semiconductor (1 is significant!) that you should be aware of before investing here.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com