Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Guangdong Rongtai Industry Co.,Ltd (SHSE:600589) makes use of debt. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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 think about a company's use of debt, we first look at cash and debt together.
What Is Guangdong Rongtai IndustryLtd's Debt?
The image below, which you can click on for greater detail, shows that Guangdong Rongtai IndustryLtd had debt of CN¥276.9m at the end of December 2023, a reduction from CN¥1.40b over a year. But on the other hand it also has CN¥1.16b in cash, leading to a CN¥885.0m net cash position.
How Healthy Is Guangdong Rongtai IndustryLtd's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Guangdong Rongtai IndustryLtd had liabilities of CN¥1.04b due within 12 months and liabilities of CN¥287.6m due beyond that. On the other hand, it had cash of CN¥1.16b and CN¥133.2m worth of receivables due within a year. So its liabilities total CN¥36.3m more than the combination of its cash and short-term receivables.
Having regard to Guangdong Rongtai IndustryLtd's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the CN¥6.68b company is struggling for cash, we still think it's worth monitoring its balance sheet. Despite its noteworthy liabilities, Guangdong Rongtai IndustryLtd boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Guangdong Rongtai IndustryLtd 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, Guangdong Rongtai IndustryLtd made a loss at the EBIT level, and saw its revenue drop to CN¥367m, which is a fall of 13%. That's not what we would hope to see.
So How Risky Is Guangdong Rongtai IndustryLtd?
While Guangdong Rongtai IndustryLtd lost money on an earnings before interest and tax (EBIT) level, it actually booked a paper profit of CN¥83m. So when you consider it has net cash, along with the statutory profit, the stock probably isn't as risky as it might seem, at least in the short term. With revenue growth uninspiring, we'd really need to see some positive EBIT before mustering much enthusiasm for this business. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Guangdong Rongtai IndustryLtd (of which 1 is a bit unpleasant!) you should know about.
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.