Is Jiangxi Guoke Defence GroupLtd (SHSE:688543) Using Too Much Debt?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Jiangxi Guoke Defence Group Co.,Ltd. (SHSE:688543) does carry debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.

View our latest analysis for Jiangxi Guoke Defence GroupLtd

What Is Jiangxi Guoke Defence GroupLtd's Net Debt?

As you can see below, Jiangxi Guoke Defence GroupLtd had CN¥60.1m of debt at September 2024, down from CN¥194.3m a year prior. However, it does have CN¥1.13b in cash offsetting this, leading to net cash of CN¥1.07b.

How Strong Is Jiangxi Guoke Defence GroupLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Jiangxi Guoke Defence GroupLtd had liabilities of CN¥664.7m due within 12 months and liabilities of CN¥45.5m due beyond that. Offsetting these obligations, it had cash of CN¥1.13b as well as receivables valued at CN¥575.6m due within 12 months. So it can boast CN¥995.8m more liquid assets than total liabilities.

This short term liquidity is a sign that Jiangxi Guoke Defence GroupLtd could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Jiangxi Guoke Defence GroupLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

Another good sign is that Jiangxi Guoke Defence GroupLtd has been able to increase its EBIT by 27% in twelve months, making it easier to pay down 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 Jiangxi Guoke Defence GroupLtd's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Jiangxi Guoke Defence 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. Looking at the most recent three years, Jiangxi Guoke Defence GroupLtd recorded free cash flow of 25% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to investigate a company's debt, in this case Jiangxi Guoke Defence GroupLtd has CN¥1.07b in net cash and a decent-looking balance sheet. And we liked the look of last year's 27% year-on-year EBIT growth. So is Jiangxi Guoke Defence GroupLtd's debt a risk? It doesn't seem so to us. 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. To that end, you should be aware of the 1 warning sign we've spotted with Jiangxi Guoke Defence GroupLtd .

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.