Is New Focus Auto Tech Holdings (HKG:360) Using Debt In A Risky Way?

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.' 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. We note that New Focus Auto Tech Holdings Limited (HKG:360) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for New Focus Auto Tech Holdings

What Is New Focus Auto Tech Holdings's Net Debt?

As you can see below, New Focus Auto Tech Holdings had CN¥272.5m of debt at June 2023, down from CN¥381.7m a year prior. But on the other hand it also has CN¥1.10b in cash, leading to a CN¥823.7m net cash position.

How Healthy Is New Focus Auto Tech Holdings' Balance Sheet?

According to the last reported balance sheet, New Focus Auto Tech Holdings had liabilities of CN¥701.5m due within 12 months, and liabilities of CN¥42.1m due beyond 12 months. On the other hand, it had cash of CN¥1.10b and CN¥94.4m worth of receivables due within a year. So it actually has CN¥447.1m more liquid assets than total liabilities.

This surplus suggests that New Focus Auto Tech Holdings has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, New Focus Auto Tech Holdings boasts net cash, so it's fair to say it does not have a heavy debt load! There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since New Focus Auto Tech Holdings will need earnings to service that debt. 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.

In the last year New Focus Auto Tech Holdings's revenue was pretty flat, and it made a negative EBIT. While that hardly impresses, its not too bad either.

So How Risky Is New Focus Auto Tech Holdings?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And we do note that New Focus Auto Tech Holdings had an earnings before interest and tax (EBIT) loss, over the last year. Indeed, in that time it burnt through CN¥42m of cash and made a loss of CN¥36m. With only CN¥823.7m on the balance sheet, it would appear that its going to need to raise capital again soon. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. 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. We've identified 2 warning signs with New Focus Auto Tech Holdings , and understanding them should be part of your investment process.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.