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. We can see that Haitian International Holdings Limited (HKG:1882) 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 is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Haitian International Holdings

What Is Haitian International Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that Haitian International Holdings had debt of CN¥999.2m at the end of June 2019, a reduction from CN¥1.42b over a year. However, it does have CN¥7.66b in cash offsetting this, leading to net cash of CN¥6.66b.

How Strong Is Haitian International Holdings's Balance Sheet?

According to the last reported balance sheet, Haitian International Holdings had liabilities of CN¥5.47b due within 12 months, and liabilities of CN¥276.8m due beyond 12 months. Offsetting this, it had CN¥7.66b in cash and CN¥2.84b in receivables that were due within 12 months. So it can boast CN¥4.75b more liquid assets than total liabilities.

This surplus suggests that Haitian International Holdings is using debt in a way that is appears to be both safe and conservative. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that Haitian International Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that Haitian International Holdings's load is not too heavy, because its EBIT was down 30% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. 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 Haitian International Holdings 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 Haitian International Holdings 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. Over the most recent three years, Haitian International Holdings recorded free cash flow worth 59% of its EBIT, which is around normal, given free cash flow excludes interest and tax. 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 Haitian International Holdings has net cash of CN¥6.66b, as well as more liquid assets than liabilities. So we are not troubled with Haitian International Holdings's debt use. We'd be motivated to research the stock further if we found out that Haitian International Holdings insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.

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.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.