Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We can see that Beiqi Foton Motor Co.,Ltd. (SHSE:600166) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.

See our latest analysis for Beiqi Foton MotorLtd

What Is Beiqi Foton MotorLtd's Debt?

The image below, which you can click on for greater detail, shows that Beiqi Foton MotorLtd had debt of CN¥5.20b at the end of September 2022, a reduction from CN¥6.48b over a year. But it also has CN¥8.62b in cash to offset that, meaning it has CN¥3.41b net cash.

How Healthy Is Beiqi Foton MotorLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Beiqi Foton MotorLtd had liabilities of CN¥30.7b due within 12 months and liabilities of CN¥6.13b due beyond that. On the other hand, it had cash of CN¥8.62b and CN¥8.50b worth of receivables due within a year. So its liabilities total CN¥19.7b more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of CN¥27.4b, so it does suggest shareholders should keep an eye on Beiqi Foton MotorLtd's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. Despite its noteworthy liabilities, Beiqi Foton MotorLtd 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 Beiqi Foton MotorLtd 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 Beiqi Foton MotorLtd had a loss before interest and tax, and actually shrunk its revenue by 23%, to CN¥46b. To be frank that doesn't bode well.

So How Risky Is Beiqi Foton MotorLtd?

Statistically speaking companies that lose money are riskier than those that make money. And the fact is that over the last twelve months Beiqi Foton MotorLtd lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of CN¥1.6b and booked a CN¥5.1b accounting loss. But the saving grace is the CN¥3.41b on the balance sheet. That means it could keep spending at its current rate for more than two years. Summing up, we're a little skeptical of this one, as it seems fairly risky in the absence of free cashflow. 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. For instance, we've identified 2 warning signs for Beiqi Foton MotorLtd (1 doesn't sit too well with us) you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.