Is Baosheng Science and Technology InnovationLtd (SHSE:600973) A Risky Investment?

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. We note that Baosheng Science and Technology Innovation Co.,Ltd. (SHSE:600973) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. 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 think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Baosheng Science and Technology InnovationLtd

What Is Baosheng Science and Technology InnovationLtd's Debt?

You can click the graphic below for the historical numbers, but it shows that Baosheng Science and Technology InnovationLtd had CN¥13.9b of debt in September 2024, down from CN¥15.0b, one year before. However, because it has a cash reserve of CN¥4.06b, its net debt is less, at about CN¥9.82b.

How Healthy Is Baosheng Science and Technology InnovationLtd's Balance Sheet?

The latest balance sheet data shows that Baosheng Science and Technology InnovationLtd had liabilities of CN¥15.3b due within a year, and liabilities of CN¥3.95b falling due after that. Offsetting these obligations, it had cash of CN¥4.06b as well as receivables valued at CN¥8.83b due within 12 months. So its liabilities total CN¥6.38b more than the combination of its cash and short-term receivables.

This is a mountain of leverage relative to its market capitalization of CN¥6.91b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Weak interest cover of 1.0 times and a disturbingly high net debt to EBITDA ratio of 10.1 hit our confidence in Baosheng Science and Technology InnovationLtd like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. Worse, Baosheng Science and Technology InnovationLtd's EBIT was down 34% over the last year. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Baosheng Science and Technology InnovationLtd's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. In the last three years, Baosheng Science and Technology InnovationLtd's free cash flow amounted to 26% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

On the face of it, Baosheng Science and Technology InnovationLtd's interest cover 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. And even its level of total liabilities fails to inspire much confidence. After considering the datapoints discussed, we think Baosheng Science and Technology InnovationLtd has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Baosheng Science and Technology InnovationLtd you should know about.

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.