Zhejiang Dahua Technology (SZSE:002236) Has A Rock Solid Balance Sheet

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.' 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. As with many other companies Zhejiang Dahua Technology Co., Ltd. (SZSE:002236) makes use of debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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.

Check out our latest analysis for Zhejiang Dahua Technology

How Much Debt Does Zhejiang Dahua Technology Carry?

As you can see below, Zhejiang Dahua Technology had CN¥1.33b of debt at March 2024, down from CN¥3.68b a year prior. But on the other hand it also has CN¥14.2b in cash, leading to a CN¥12.9b net cash position.

A Look At Zhejiang Dahua Technology's Liabilities

Zooming in on the latest balance sheet data, we can see that Zhejiang Dahua Technology had liabilities of CN¥12.8b due within 12 months and liabilities of CN¥636.8m due beyond that. Offsetting this, it had CN¥14.2b in cash and CN¥17.4b in receivables that were due within 12 months. So it actually has CN¥18.1b more liquid assets than total liabilities.

This luscious liquidity implies that Zhejiang Dahua Technology's balance sheet is sturdy like a giant sequoia tree. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Zhejiang Dahua Technology has more cash than debt is arguably a good indication that it can manage its debt safely.

Even more impressive was the fact that Zhejiang Dahua Technology grew its EBIT by 137% over twelve months. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Zhejiang Dahua Technology can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Zhejiang Dahua Technology 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. Looking at the most recent three years, Zhejiang Dahua Technology recorded free cash flow of 44% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case Zhejiang Dahua Technology has CN¥12.9b in net cash and a decent-looking balance sheet. And we liked the look of last year's 137% year-on-year EBIT growth. So is Zhejiang Dahua Technology's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 2 warning signs for Zhejiang Dahua Technology you should be aware of, and 1 of them doesn't sit too well with us.

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.