Shanghai Hugong Electric GroupLtd (SHSE:603131) Could Easily Take On More Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 note that Shanghai Hugong Electric Group Co.,Ltd. (SHSE:603131) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Shanghai Hugong Electric GroupLtd

What Is Shanghai Hugong Electric GroupLtd's Debt?

The image below, which you can click on for greater detail, shows that Shanghai Hugong Electric GroupLtd had debt of CN¥438.2m at the end of March 2024, a reduction from CN¥545.2m over a year. However, its balance sheet shows it holds CN¥806.6m in cash, so it actually has CN¥368.4m net cash.

How Strong Is Shanghai Hugong Electric GroupLtd's Balance Sheet?

According to the last reported balance sheet, Shanghai Hugong Electric GroupLtd had liabilities of CN¥443.4m due within 12 months, and liabilities of CN¥447.2m due beyond 12 months. Offsetting this, it had CN¥806.6m in cash and CN¥450.6m in receivables that were due within 12 months. So it actually has CN¥366.7m more liquid assets than total liabilities.

This short term liquidity is a sign that Shanghai Hugong Electric GroupLtd could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Shanghai Hugong Electric GroupLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

Better yet, Shanghai Hugong Electric GroupLtd grew its EBIT by 109% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. There's no doubt that we learn most about debt from the balance sheet. But it is Shanghai Hugong Electric GroupLtd's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Shanghai Hugong Electric GroupLtd 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. Over the last three years, Shanghai Hugong Electric GroupLtd recorded free cash flow worth a fulsome 94% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Shanghai Hugong Electric GroupLtd has net cash of CN¥368.4m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥103m, being 94% of its EBIT. So we don't think Shanghai Hugong Electric GroupLtd's use of debt is risky. 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 Shanghai Hugong Electric GroupLtd has 2 warning signs (and 1 which makes us a bit uncomfortable) we think you should know about.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com