These 4 Measures Indicate That Leyard Optoelectronic (SZSE:300296) Is Using Debt Reasonably Well

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. As with many other companies Leyard Optoelectronic Co., Ltd. (SZSE:300296) makes use of debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. 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 step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Leyard Optoelectronic

What Is Leyard Optoelectronic's Debt?

As you can see below, Leyard Optoelectronic had CN¥1.56b of debt, at September 2023, which is about the same as the year before. You can click the chart for greater detail. But it also has CN¥2.36b in cash to offset that, meaning it has CN¥795.7m net cash.

How Strong Is Leyard Optoelectronic's Balance Sheet?

According to the last reported balance sheet, Leyard Optoelectronic had liabilities of CN¥5.04b due within 12 months, and liabilities of CN¥1.30b due beyond 12 months. Offsetting these obligations, it had cash of CN¥2.36b as well as receivables valued at CN¥5.68b due within 12 months. So it actually has CN¥1.70b more liquid assets than total liabilities.

This surplus suggests that Leyard Optoelectronic has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Leyard Optoelectronic has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Leyard Optoelectronic's saving grace is its low debt levels, because its EBIT has tanked 33% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. 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 Leyard Optoelectronic 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Leyard Optoelectronic 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. Over the most recent three years, Leyard Optoelectronic recorded free cash flow worth 63% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Leyard Optoelectronic has net cash of CN¥795.7m, as well as more liquid assets than liabilities. So we are not troubled with Leyard Optoelectronic's debt use. 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. We've identified 3 warning signs with Leyard Optoelectronic , and understanding them should be part of your investment process.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.