Is Shenzhen hongfuhan Technology (SZSE:301086) A Risky Investment?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. As with many other companies Shenzhen hongfuhan Technology Co. Ltd. (SZSE:301086) makes use of debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 Shenzhen hongfuhan Technology

How Much Debt Does Shenzhen hongfuhan Technology Carry?

As you can see below, at the end of March 2024, Shenzhen hongfuhan Technology had CN¥229.2m of debt, up from CN¥72.9m a year ago. Click the image for more detail. However, it does have CN¥842.1m in cash offsetting this, leading to net cash of CN¥613.0m.

A Look At Shenzhen hongfuhan Technology's Liabilities

The latest balance sheet data shows that Shenzhen hongfuhan Technology had liabilities of CN¥370.1m due within a year, and liabilities of CN¥137.1m falling due after that. On the other hand, it had cash of CN¥842.1m and CN¥329.9m worth of receivables due within a year. So it actually has CN¥664.8m more liquid assets than total liabilities.

It's good to see that Shenzhen hongfuhan Technology has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, Shenzhen hongfuhan Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for Shenzhen hongfuhan Technology if management cannot prevent a repeat of the 46% cut to EBIT over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But it is Shenzhen hongfuhan Technology's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Shenzhen hongfuhan 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. During the last three years, Shenzhen hongfuhan Technology burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Shenzhen hongfuhan Technology has net cash of CN¥613.0m, as well as more liquid assets than liabilities. So we are not troubled with Shenzhen hongfuhan Technology's debt use. 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. We've identified 4 warning signs with Shenzhen hongfuhan Technology (at least 2 which are concerning) , and understanding them should be part of your investment process.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.

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