Shandong Yulong Gold (SHSE:601028) Seems To Use Debt Quite Sensibly

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.' 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. As with many other companies Shandong Yulong Gold Co., Ltd. (SHSE:601028) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Shandong Yulong Gold

What Is Shandong Yulong Gold's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Shandong Yulong Gold had CN¥1.75b of debt, an increase on CN¥1.17b, over one year. But it also has CN¥1.92b in cash to offset that, meaning it has CN¥175.4m net cash.

How Strong Is Shandong Yulong Gold's Balance Sheet?

According to the last reported balance sheet, Shandong Yulong Gold had liabilities of CN¥4.37b due within 12 months, and liabilities of CN¥760.3m due beyond 12 months. Offsetting these obligations, it had cash of CN¥1.92b as well as receivables valued at CN¥1.92b due within 12 months. So its liabilities total CN¥1.29b more than the combination of its cash and short-term receivables.

Of course, Shandong Yulong Gold has a market capitalization of CN¥10.7b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Shandong Yulong Gold also has more cash than debt, so we're pretty confident it can manage its debt safely.

On top of that, Shandong Yulong Gold grew its EBIT by 41% over the last twelve months, and that growth will make it easier to handle its debt. 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 Shandong Yulong Gold 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Shandong Yulong Gold may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, Shandong Yulong Gold 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 Shandong Yulong Gold does have more liabilities than liquid assets, it also has net cash of CN¥175.4m. And it impressed us with its EBIT growth of 41% over the last year. So we are not troubled with Shandong Yulong Gold's debt use. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 2 warning signs for Shandong Yulong Gold that you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.

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