We Think Wuhan Kotei InformaticsLtd (SZSE:301221) Can Stay On Top Of Its Debt

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Wuhan Kotei Informatics Co.,Ltd. (SZSE:301221) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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 Wuhan Kotei InformaticsLtd

What Is Wuhan Kotei InformaticsLtd's Debt?

As you can see below, Wuhan Kotei InformaticsLtd had CN¥36.8m of debt at September 2024, down from CN¥77.4m a year prior. However, it does have CN¥1.15b in cash offsetting this, leading to net cash of CN¥1.11b.

How Healthy Is Wuhan Kotei InformaticsLtd's Balance Sheet?

According to the last reported balance sheet, Wuhan Kotei InformaticsLtd had liabilities of CN¥170.6m due within 12 months, and liabilities of CN¥30.3m due beyond 12 months. Offsetting this, it had CN¥1.15b in cash and CN¥350.0m in receivables that were due within 12 months. So it can boast CN¥1.30b more liquid assets than total liabilities.

This excess liquidity is a great indication that Wuhan Kotei InformaticsLtd'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 Wuhan Kotei InformaticsLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Wuhan Kotei InformaticsLtd's saving grace is its low debt levels, because its EBIT has tanked 91% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Wuhan Kotei InformaticsLtd can strengthen its balance sheet over time. 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 company can only pay off debt with cold hard cash, not accounting profits. Wuhan Kotei InformaticsLtd 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. During the last three years, Wuhan Kotei InformaticsLtd burned a lot of cash. 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 Wuhan Kotei InformaticsLtd has CN¥1.11b in net cash and a decent-looking balance sheet. So we don't have any problem with Wuhan Kotei InformaticsLtd's use of debt. 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 - Wuhan Kotei InformaticsLtd has 1 warning sign we think you should be aware of.

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.