These 4 Measures Indicate That Suzhou TFC Optical Communication (SZSE:300394) Is Using Debt Safely

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. Importantly, Suzhou TFC Optical Communication Co., Ltd. (SZSE:300394) does carry debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. If things get really bad, the lenders can take control of the business. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Suzhou TFC Optical Communication

What Is Suzhou TFC Optical Communication's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2024 Suzhou TFC Optical Communication had debt of CN¥40.0m, up from none in one year. But on the other hand it also has CN¥2.41b in cash, leading to a CN¥2.37b net cash position.

How Strong Is Suzhou TFC Optical Communication's Balance Sheet?

According to the last reported balance sheet, Suzhou TFC Optical Communication had liabilities of CN¥759.8m due within 12 months, and liabilities of CN¥28.4m due beyond 12 months. Offsetting this, it had CN¥2.41b in cash and CN¥739.6m in receivables that were due within 12 months. So it actually has CN¥2.36b more liquid assets than total liabilities.

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

Better yet, Suzhou TFC Optical Communication grew its EBIT by 145% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. 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 Suzhou TFC Optical Communication 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Suzhou TFC Optical Communication has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the most recent three years, Suzhou TFC Optical Communication recorded free cash flow worth 77% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While it is always sensible to investigate a company's debt, in this case Suzhou TFC Optical Communication has CN¥2.37b in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 145% over the last year. So we don't think Suzhou TFC Optical Communication's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Suzhou TFC Optical Communication (of which 1 shouldn't be ignored!) you should know about.

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.