Sinosteel Engineering & Technology (SZSE:000928) Seems To Use Debt Quite Sensibly

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Sinosteel Engineering & Technology Co., Ltd. (SZSE:000928) does use debt in its business. But the more important question is: how much risk is that debt creating?

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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Sinosteel Engineering & Technology

What Is Sinosteel Engineering & Technology's Net Debt?

The image below, which you can click on for greater detail, shows that Sinosteel Engineering & Technology had debt of CN¥729.2m at the end of March 2024, a reduction from CN¥2.03b over a year. However, its balance sheet shows it holds CN¥7.11b in cash, so it actually has CN¥6.39b net cash.

How Strong Is Sinosteel Engineering & Technology's Balance Sheet?

The latest balance sheet data shows that Sinosteel Engineering & Technology had liabilities of CN¥19.1b due within a year, and liabilities of CN¥377.0m falling due after that. On the other hand, it had cash of CN¥7.11b and CN¥9.40b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥2.94b.

While this might seem like a lot, it is not so bad since Sinosteel Engineering & Technology has a market capitalization of CN¥7.85b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Sinosteel Engineering & Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

Also good is that Sinosteel Engineering & Technology grew its EBIT at 15% over the last year, further increasing its ability to manage 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 Sinosteel Engineering & Technology can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Sinosteel Engineering & Technology 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. During the last three years, Sinosteel Engineering & Technology generated free cash flow amounting to a very robust 91% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While Sinosteel Engineering & Technology does have more liabilities than liquid assets, it also has net cash of CN¥6.39b. And it impressed us with free cash flow of -CN¥541m, being 91% of its EBIT. So we don't think Sinosteel Engineering & Technology's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 3 warning signs for Sinosteel Engineering & Technology (1 is concerning) you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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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