Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Guizhou Wire Rope Incorporated Company (SHSE:600992) does have debt on its balance sheet. But is this debt a concern to shareholders?
When Is Debt A Problem?
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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
Check out our latest analysis for Guizhou Wire Rope
How Much Debt Does Guizhou Wire Rope Carry?
As you can see below, Guizhou Wire Rope had CN¥901.3m of debt, at September 2023, which is about the same as the year before. You can click the chart for greater detail. However, it also had CN¥271.1m in cash, and so its net debt is CN¥630.1m.
A Look At Guizhou Wire Rope's Liabilities
Zooming in on the latest balance sheet data, we can see that Guizhou Wire Rope had liabilities of CN¥1.50b due within 12 months and liabilities of CN¥412.2m due beyond that. Offsetting these obligations, it had cash of CN¥271.1m as well as receivables valued at CN¥609.0m due within 12 months. So its liabilities total CN¥1.03b more than the combination of its cash and short-term receivables.
This deficit isn't so bad because Guizhou Wire Rope is worth CN¥3.90b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.
While Guizhou Wire Rope's debt to EBITDA ratio of 8.1 suggests a heavy debt load, its interest coverage of 9.3 implies it services that debt with ease. Overall we'd say it seems likely the company is carrying a fairly heavy swag of debt. Notably, Guizhou Wire Rope's EBIT launched higher than Elon Musk, gaining a whopping 321% on last year. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Guizhou Wire Rope 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.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Guizhou Wire Rope saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.
Our View
Neither Guizhou Wire Rope's ability to convert EBIT to free cash flow nor its net debt to EBITDA gave us confidence in its ability to take on more debt. But its EBIT growth rate tells a very different story, and suggests some resilience. We think that Guizhou Wire Rope's debt does make it a bit risky, after considering the aforementioned data points together. That's not necessarily a bad thing, since leverage can boost returns on equity, but it is something to be aware of. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 1 warning sign for Guizhou Wire Rope that you should be aware of.
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.