Is AVIC Airborne Systems (SHSE:600372) 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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, AVIC Airborne Systems Co., Ltd. (SHSE:600372) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. 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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for AVIC Airborne Systems

What Is AVIC Airborne Systems's Debt?

The image below, which you can click on for greater detail, shows that at December 2023 AVIC Airborne Systems had debt of CN¥9.28b, up from CN¥8.72b in one year. However, its balance sheet shows it holds CN¥13.7b in cash, so it actually has CN¥4.42b net cash.

How Strong Is AVIC Airborne Systems' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that AVIC Airborne Systems had liabilities of CN¥29.8b due within 12 months and liabilities of CN¥6.00b due beyond that. Offsetting this, it had CN¥13.7b in cash and CN¥27.0b in receivables that were due within 12 months. So it can boast CN¥4.89b more liquid assets than total liabilities.

This short term liquidity is a sign that AVIC Airborne Systems could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that AVIC Airborne Systems has more cash than debt is arguably a good indication that it can manage its debt safely.

The good news is that AVIC Airborne Systems has increased its EBIT by 2.8% over twelve months, which should ease any concerns about debt repayment. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if AVIC Airborne Systems 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 AVIC Airborne Systems 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. During the last three years, AVIC Airborne Systems burned a lot of cash. 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.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that AVIC Airborne Systems has net cash of CN¥4.42b, as well as more liquid assets than liabilities. On top of that, it increased its EBIT by 2.8% in the last twelve months. So we don't have any problem with AVIC Airborne Systems's use of debt. 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. We've identified 2 warning signs with AVIC Airborne Systems (at least 1 which shouldn't be ignored) , and understanding them should be part of your investment process.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.