Is Jiangsu Rijiu Optoelectronics (SZSE:003015) Using Too Much Debt?

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.' 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. We note that Jiangsu Rijiu Optoelectronics Jointstock Co., Ltd (SZSE:003015) does have debt on its balance sheet. But is this debt a concern to shareholders?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Jiangsu Rijiu Optoelectronics

What Is Jiangsu Rijiu Optoelectronics's Debt?

You can click the graphic below for the historical numbers, but it shows that Jiangsu Rijiu Optoelectronics had CN¥57.1m of debt in September 2024, down from CN¥158.4m, one year before. But it also has CN¥132.0m in cash to offset that, meaning it has CN¥74.9m net cash.

How Strong Is Jiangsu Rijiu Optoelectronics' Balance Sheet?

The latest balance sheet data shows that Jiangsu Rijiu Optoelectronics had liabilities of CN¥150.4m due within a year, and liabilities of CN¥15.7m falling due after that. Offsetting these obligations, it had cash of CN¥132.0m as well as receivables valued at CN¥181.7m due within 12 months. So it actually has CN¥147.6m more liquid assets than total liabilities.

This short term liquidity is a sign that Jiangsu Rijiu Optoelectronics could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Jiangsu Rijiu Optoelectronics boasts net cash, so it's fair to say it does not have a heavy debt load!

Better yet, Jiangsu Rijiu Optoelectronics grew its EBIT by 163% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. There's no doubt that we learn most about debt from the balance sheet. But it is Jiangsu Rijiu Optoelectronics's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Jiangsu Rijiu Optoelectronics 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. Happily for any shareholders, Jiangsu Rijiu Optoelectronics actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Jiangsu Rijiu Optoelectronics has net cash of CN¥74.9m, as well as more liquid assets than liabilities. The cherry on top was that in converted 217% of that EBIT to free cash flow, bringing in CN¥142m. So is Jiangsu Rijiu Optoelectronics'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. We've identified 4 warning signs with Jiangsu Rijiu Optoelectronics (at least 1 which doesn't sit too well with us) , and understanding them should be part of your investment process.

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.

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

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.