Is XTC New Energy Materials(Xiamen)Ltd (SHSE:688778) Using Too Much Debt?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. As with many other companies XTC New Energy Materials(Xiamen) Co.,Ltd. (SHSE:688778) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for XTC New Energy Materials(Xiamen)Ltd

What Is XTC New Energy Materials(Xiamen)Ltd's Debt?

The image below, which you can click on for greater detail, shows that XTC New Energy Materials(Xiamen)Ltd had debt of CN¥1.62b at the end of March 2024, a reduction from CN¥1.75b over a year. However, its balance sheet shows it holds CN¥2.78b in cash, so it actually has CN¥1.16b net cash.

How Healthy Is XTC New Energy Materials(Xiamen)Ltd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that XTC New Energy Materials(Xiamen)Ltd had liabilities of CN¥4.56b due within 12 months and liabilities of CN¥924.5m due beyond that. On the other hand, it had cash of CN¥2.78b and CN¥3.52b worth of receivables due within a year. So it can boast CN¥819.0m more liquid assets than total liabilities.

This short term liquidity is a sign that XTC New Energy Materials(Xiamen)Ltd could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that XTC New Energy Materials(Xiamen)Ltd has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact XTC New Energy Materials(Xiamen)Ltd's saving grace is its low debt levels, because its EBIT has tanked 57% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if XTC New Energy Materials(Xiamen)Ltd 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. XTC New Energy Materials(Xiamen)Ltd 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, XTC New Energy Materials(Xiamen)Ltd 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 we empathize with investors who find debt concerning, you should keep in mind that XTC New Energy Materials(Xiamen)Ltd has net cash of CN¥1.16b, as well as more liquid assets than liabilities. So although we see some areas for improvement, we're not too worried about XTC New Energy Materials(Xiamen)Ltd's balance sheet. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 2 warning signs we've spotted with XTC New Energy Materials(Xiamen)Ltd .

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.

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