Is Jiangnan Mould & Plastic Technology (SZSE:000700) Using Too Much Debt?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Jiangnan Mould & Plastic Technology Co., Ltd. (SZSE:000700) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Jiangnan Mould & Plastic Technology

How Much Debt Does Jiangnan Mould & Plastic Technology Carry?

As you can see below, Jiangnan Mould & Plastic Technology had CN¥2.87b of debt at March 2024, down from CN¥3.14b a year prior. However, it also had CN¥2.03b in cash, and so its net debt is CN¥842.7m.

How Healthy Is Jiangnan Mould & Plastic Technology's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Jiangnan Mould & Plastic Technology had liabilities of CN¥5.32b due within 12 months and liabilities of CN¥244.2m due beyond that. On the other hand, it had cash of CN¥2.03b and CN¥1.75b worth of receivables due within a year. So it has liabilities totalling CN¥1.79b more than its cash and near-term receivables, combined.

This deficit isn't so bad because Jiangnan Mould & Plastic Technology is worth CN¥4.91b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Jiangnan Mould & Plastic Technology has a low debt to EBITDA ratio of only 1.1. But the really cool thing is that it actually managed to receive more interest than it paid, over the last year. So there's no doubt this company can take on debt while staying cool as a cucumber. Fortunately, Jiangnan Mould & Plastic Technology grew its EBIT by 2.2% in the last year, making that debt load look even more manageable. There's no doubt that we learn most about debt from the balance sheet. But it is Jiangnan Mould & Plastic Technology's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the last three years, Jiangnan Mould & Plastic Technology actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Our View

The good news is that Jiangnan Mould & Plastic Technology's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. And that's just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. Taking all this data into account, it seems to us that Jiangnan Mould & Plastic Technology takes a pretty sensible approach to debt. That means they are taking on a bit more risk, in the hope of boosting shareholder returns. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - Jiangnan Mould & Plastic Technology has 1 warning sign we think you should be aware of.

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.

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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.