Here's Why Ningbo Jifeng Auto Parts (SHSE:603997) Is Weighed Down By Its Debt Load

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. As with many other companies Ningbo Jifeng Auto Parts Co., Ltd. (SHSE:603997) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Ningbo Jifeng Auto Parts

How Much Debt Does Ningbo Jifeng Auto Parts Carry?

The image below, which you can click on for greater detail, shows that at September 2024 Ningbo Jifeng Auto Parts had debt of CN¥6.72b, up from CN¥5.25b in one year. On the flip side, it has CN¥2.10b in cash leading to net debt of about CN¥4.62b.

A Look At Ningbo Jifeng Auto Parts' Liabilities

According to the last reported balance sheet, Ningbo Jifeng Auto Parts had liabilities of CN¥9.34b due within 12 months, and liabilities of CN¥5.54b due beyond 12 months. On the other hand, it had cash of CN¥2.10b and CN¥5.81b worth of receivables due within a year. So its liabilities total CN¥6.96b more than the combination of its cash and short-term receivables.

Ningbo Jifeng Auto Parts has a market capitalization of CN¥14.7b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Ningbo Jifeng Auto Parts shareholders face the double whammy of a high net debt to EBITDA ratio (5.1), and fairly weak interest coverage, since EBIT is just 0.69 times the interest expense. The debt burden here is substantial. Even worse, Ningbo Jifeng Auto Parts saw its EBIT tank 65% over the last 12 months. If earnings continue to follow that trajectory, paying off that debt load will be harder than convincing us to run a marathon in the rain. 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 Ningbo Jifeng Auto Parts can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, Ningbo Jifeng Auto Parts burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

On the face of it, Ningbo Jifeng Auto Parts's conversion of EBIT to free cash flow left us tentative about the stock, and its EBIT growth rate was no more enticing than the one empty restaurant on the busiest night of the year. But at least its level of total liabilities is not so bad. Taking into account all the aforementioned factors, it looks like Ningbo Jifeng Auto Parts has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. While Ningbo Jifeng Auto Parts didn't make a statutory profit in the last year, its positive EBIT suggests that profitability might not be far away. Click here to see if its earnings are heading in the right direction, over the medium term.

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.