These 4 Measures Indicate That Shenzhen Edadoc TechnologyLtd (SZSE:301366) Is Using Debt Reasonably Well

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. Importantly, Shenzhen Edadoc Technology Co.,Ltd. (SZSE:301366) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Shenzhen Edadoc TechnologyLtd

How Much Debt Does Shenzhen Edadoc TechnologyLtd Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Shenzhen Edadoc TechnologyLtd had CN¥113.6m of debt, an increase on none, over one year. But it also has CN¥1.09b in cash to offset that, meaning it has CN¥980.5m net cash.

A Look At Shenzhen Edadoc TechnologyLtd's Liabilities

Zooming in on the latest balance sheet data, we can see that Shenzhen Edadoc TechnologyLtd had liabilities of CN¥332.9m due within 12 months and liabilities of CN¥122.7m due beyond that. On the other hand, it had cash of CN¥1.09b and CN¥187.6m worth of receivables due within a year. So it can boast CN¥826.0m more liquid assets than total liabilities.

This surplus suggests that Shenzhen Edadoc TechnologyLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Shenzhen Edadoc TechnologyLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Shenzhen Edadoc TechnologyLtd's EBIT dived 15%, over the last year. If that rate of decline in earnings continues, the company could find itself in a tight spot. When analysing debt levels, the balance sheet is the obvious place to start. But it is Shenzhen Edadoc TechnologyLtd'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. While Shenzhen Edadoc TechnologyLtd 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. During the last three years, Shenzhen Edadoc TechnologyLtd 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 it is always sensible to investigate a company's debt, in this case Shenzhen Edadoc TechnologyLtd has CN¥980.5m in net cash and a decent-looking balance sheet. So we don't have any problem with Shenzhen Edadoc TechnologyLtd's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 4 warning signs for Shenzhen Edadoc TechnologyLtd (3 make us uncomfortable) you should be aware of.

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.

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.