Is Inspur Digital Enterprise Technology (HKG:596) Using Too Much Debt?

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. As with many other companies Inspur Digital Enterprise Technology Limited (HKG:596) makes use of debt. But the more important question is: how much risk is that debt creating?

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When Is Debt A Problem?

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. If things get really bad, the lenders can take control of the business. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Inspur Digital Enterprise Technology's Net Debt?

As you can see below, Inspur Digital Enterprise Technology had CN¥104.5m of debt at December 2024, down from CN¥146.0m a year prior. However, its balance sheet shows it holds CN¥918.8m in cash, so it actually has CN¥814.3m net cash.

A Look At Inspur Digital Enterprise Technology's Liabilities

We can see from the most recent balance sheet that Inspur Digital Enterprise Technology had liabilities of CN¥5.28b falling due within a year, and liabilities of CN¥236.9m due beyond that. Offsetting this, it had CN¥918.8m in cash and CN¥4.84b in receivables that were due within 12 months. So it can boast CN¥238.4m more liquid assets than total liabilities.

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

View our latest analysis for Inspur Digital Enterprise Technology

Better yet, Inspur Digital Enterprise Technology grew its EBIT by 255% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Inspur Digital Enterprise Technology's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Inspur Digital Enterprise 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. In the last two years, Inspur Digital Enterprise Technology's free cash flow amounted to 47% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to investigate a company's debt, in this case Inspur Digital Enterprise Technology has CN¥814.3m in net cash and a decent-looking balance sheet. And we liked the look of last year's 255% year-on-year EBIT growth. So we don't think Inspur Digital Enterprise Technology's use of debt is risky. 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 1 warning sign with Inspur Digital Enterprise Technology , and understanding them should be part of your investment process.

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.