We Think China Railway Hi-tech Industry (SHSE:600528) Is Taking Some Risk With Its 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.' 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. Importantly, China Railway Hi-tech Industry Corporation Limited (SHSE:600528) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. If things get really bad, the lenders can take control of the business. 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, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for China Railway Hi-tech Industry

What Is China Railway Hi-tech Industry's Net Debt?

The image below, which you can click on for greater detail, shows that China Railway Hi-tech Industry had debt of CN¥159.7m at the end of September 2024, a reduction from CN¥214.8m over a year. But on the other hand it also has CN¥4.91b in cash, leading to a CN¥4.75b net cash position.

How Strong Is China Railway Hi-tech Industry's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that China Railway Hi-tech Industry had liabilities of CN¥35.3b due within 12 months and liabilities of CN¥680.0m due beyond that. Offsetting these obligations, it had cash of CN¥4.91b as well as receivables valued at CN¥20.9b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥10.2b.

This deficit is considerable relative to its market capitalization of CN¥16.5b, so it does suggest shareholders should keep an eye on China Railway Hi-tech Industry's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. Despite its noteworthy liabilities, China Railway Hi-tech Industry boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, China Railway Hi-tech Industry's EBIT dived 13%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. There's no doubt that we learn most about debt from the balance sheet. But it is China Railway Hi-tech Industry'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While China Railway Hi-tech Industry 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. In the last three years, China Railway Hi-tech Industry created free cash flow amounting to 2.2% of its EBIT, an uninspiring performance. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Summing Up

While China Railway Hi-tech Industry does have more liabilities than liquid assets, it also has net cash of CN¥4.75b. So although we see some areas for improvement, we're not too worried about China Railway Hi-tech Industry's balance sheet. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example China Railway Hi-tech Industry has 2 warning signs (and 1 which doesn't sit too well with us) we think you should know about.

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.