Here's Why Inner Mongolia First Machinery GroupLtd (SHSE:600967) Has A Meaningful Debt Burden

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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 can see that Inner Mongolia First Machinery Group Co.,Ltd. (SHSE:600967) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. 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.

View our latest analysis for Inner Mongolia First Machinery GroupLtd

What Is Inner Mongolia First Machinery GroupLtd's Debt?

The image below, which you can click on for greater detail, shows that at June 2024 Inner Mongolia First Machinery GroupLtd had debt of CN¥43.0m, up from CN¥25.0m in one year. But on the other hand it also has CN¥6.75b in cash, leading to a CN¥6.70b net cash position.

How Healthy Is Inner Mongolia First Machinery GroupLtd's Balance Sheet?

The latest balance sheet data shows that Inner Mongolia First Machinery GroupLtd had liabilities of CN¥8.64b due within a year, and liabilities of CN¥610.7m falling due after that. Offsetting this, it had CN¥6.75b in cash and CN¥1.83b in receivables that were due within 12 months. So its liabilities total CN¥671.4m more than the combination of its cash and short-term receivables.

Given Inner Mongolia First Machinery GroupLtd has a market capitalization of CN¥13.0b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Inner Mongolia First Machinery GroupLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Inner Mongolia First Machinery GroupLtd's EBIT dived 17%, over the last year. If that rate of decline in earnings continues, the company could find itself in a tight spot. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Inner Mongolia First Machinery GroupLtd 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Inner Mongolia First Machinery GroupLtd 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, Inner Mongolia First Machinery GroupLtd 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 it is always sensible to look at a company's total liabilities, it is very reassuring that Inner Mongolia First Machinery GroupLtd has CN¥6.70b in net cash. So while Inner Mongolia First Machinery GroupLtd does not have a great balance sheet, it's certainly not too bad. 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 1 warning sign with Inner Mongolia First Machinery GroupLtd , and understanding them should be part of your investment process.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.