Here's Why Shenzhen Topband (SZSE:002139) Can Manage Its Debt Responsibly

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Shenzhen Topband Co., Ltd. (SZSE:002139) does carry debt. But the more important question is: how much risk is that debt creating?

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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Shenzhen Topband

What Is Shenzhen Topband's Net Debt?

The image below, which you can click on for greater detail, shows that at March 2024 Shenzhen Topband had debt of CN¥1.84b, up from CN¥1.35b in one year. However, it does have CN¥2.87b in cash offsetting this, leading to net cash of CN¥1.03b.

How Healthy Is Shenzhen Topband's Balance Sheet?

We can see from the most recent balance sheet that Shenzhen Topband had liabilities of CN¥5.06b falling due within a year, and liabilities of CN¥712.9m due beyond that. On the other hand, it had cash of CN¥2.87b and CN¥2.89b worth of receivables due within a year. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.

Having regard to Shenzhen Topband's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the CN¥13.0b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Shenzhen Topband also has more cash than debt, so we're pretty confident it can manage its debt safely.

And we also note warmly that Shenzhen Topband grew its EBIT by 14% last year, making its debt load easier to handle. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Shenzhen Topband 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. Shenzhen Topband 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, Shenzhen Topband burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing Up

We could understand if investors are concerned about Shenzhen Topband's liabilities, but we can be reassured by the fact it has has net cash of CN¥1.03b. And it also grew its EBIT by 14% over the last year. So we are not troubled with Shenzhen Topband's debt use. Over time, share prices tend to follow earnings per share, so if you're interested in Shenzhen Topband, you may well want to click here to check an interactive graph of its earnings per share history.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.

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