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.' 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. Importantly, Sichuan Biokin Pharmaceutical Co.,Ltd. (SHSE:688506) does carry debt. But should shareholders be worried about its use of debt?

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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Sichuan Biokin PharmaceuticalLtd's Debt?

As you can see below, Sichuan Biokin PharmaceuticalLtd had CN¥332.8m of debt at September 2023, down from CN¥425.6m a year prior. However, its balance sheet shows it holds CN¥414.1m in cash, so it actually has CN¥81.3m net cash.

A Look At Sichuan Biokin PharmaceuticalLtd's Liabilities

The latest balance sheet data shows that Sichuan Biokin PharmaceuticalLtd had liabilities of CN¥803.7m due within a year, and liabilities of CN¥190.9m falling due after that. On the other hand, it had cash of CN¥414.1m and CN¥138.2m worth of receivables due within a year. So its liabilities total CN¥442.2m more than the combination of its cash and short-term receivables.

This state of affairs indicates that Sichuan Biokin PharmaceuticalLtd's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the CN¥49.5b company is short on cash, but still worth keeping an eye on the balance sheet. Despite its noteworthy liabilities, Sichuan Biokin PharmaceuticalLtd boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Sichuan Biokin PharmaceuticalLtd will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Sichuan Biokin PharmaceuticalLtd made a loss at the EBIT level, and saw its revenue drop to CN¥562m, which is a fall of 20%. That makes us nervous, to say the least.

So How Risky Is Sichuan Biokin PharmaceuticalLtd?

Statistically speaking companies that lose money are riskier than those that make money. And we do note that Sichuan Biokin PharmaceuticalLtd had an earnings before interest and tax (EBIT) loss, over the last year. And over the same period it saw negative free cash outflow of CN¥570m and booked a CN¥764m accounting loss. Given it only has net cash of CN¥81.3m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, we'd say the stock is a bit risky, and we're usually very cautious until we see positive free cash flow. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. We've identified 3 warning signs with Sichuan Biokin PharmaceuticalLtd , and understanding them should be part of your investment process.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.