Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that Shanghai Baosight Software Co.,Ltd. (SHSE:600845) does use debt in its business. But is this debt a concern to shareholders?
When Is Debt A Problem?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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.
Check out our latest analysis for Shanghai Baosight SoftwareLtd
What Is Shanghai Baosight SoftwareLtd's Debt?
The image below, which you can click on for greater detail, shows that at March 2022 Shanghai Baosight SoftwareLtd had debt of CN¥231.0m, up from CN¥88.2m in one year. But on the other hand it also has CN¥5.28b in cash, leading to a CN¥5.05b net cash position.
How Healthy Is Shanghai Baosight SoftwareLtd's Balance Sheet?
According to the last reported balance sheet, Shanghai Baosight SoftwareLtd had liabilities of CN¥8.29b due within 12 months, and liabilities of CN¥436.5m due beyond 12 months. On the other hand, it had cash of CN¥5.28b and CN¥5.75b worth of receivables due within a year. So it can boast CN¥2.30b more liquid assets than total liabilities.
This short term liquidity is a sign that Shanghai Baosight SoftwareLtd could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Shanghai Baosight SoftwareLtd boasts net cash, so it's fair to say it does not have a heavy debt load!
On top of that, Shanghai Baosight SoftwareLtd grew its EBIT by 31% over the last twelve months, and that growth will make it easier to handle its debt. 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 Shanghai Baosight SoftwareLtd can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Shanghai Baosight SoftwareLtd 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, Shanghai Baosight SoftwareLtd produced sturdy free cash flow equating to 76% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.
Summing up
While we empathize with investors who find debt concerning, you should keep in mind that Shanghai Baosight SoftwareLtd has net cash of CN¥5.05b, as well as more liquid assets than liabilities. And we liked the look of last year's 31% year-on-year EBIT growth. So is Shanghai Baosight SoftwareLtd's debt a risk? It doesn't seem so to us. 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. To that end, you should be aware of the 2 warning signs we've spotted with Shanghai Baosight SoftwareLtd .
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.
