Is Weihai Guangtai Airport EquipmentLtd (SZSE:002111) A Risky Investment?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. We can see that Weihai Guangtai Airport Equipment Co.,Ltd (SZSE:002111) does use debt in its business. But the real question is whether this debt is making the company risky.

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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.

See our latest analysis for Weihai Guangtai Airport EquipmentLtd

How Much Debt Does Weihai Guangtai Airport EquipmentLtd Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Weihai Guangtai Airport EquipmentLtd had CN¥1.52b of debt, an increase on CN¥1.30b, over one year. On the flip side, it has CN¥679.3m in cash leading to net debt of about CN¥837.7m.

A Look At Weihai Guangtai Airport EquipmentLtd's Liabilities

Zooming in on the latest balance sheet data, we can see that Weihai Guangtai Airport EquipmentLtd had liabilities of CN¥2.24b due within 12 months and liabilities of CN¥978.1m due beyond that. On the other hand, it had cash of CN¥679.3m and CN¥1.82b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥716.2m.

Of course, Weihai Guangtai Airport EquipmentLtd has a market capitalization of CN¥5.73b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Weihai Guangtai Airport EquipmentLtd has net debt to EBITDA of 3.2 suggesting it uses a fair bit of leverage to boost returns. On the plus side, its EBIT was 9.2 times its interest expense, and its net debt to EBITDA, was quite high, at 3.2. The bad news is that Weihai Guangtai Airport EquipmentLtd saw its EBIT decline by 16% over the last year. If earnings continue to decline at that rate then handling the debt will be more difficult than taking three children under 5 to a fancy pants restaurant. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Weihai Guangtai Airport EquipmentLtd 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Weihai Guangtai Airport EquipmentLtd saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

To be frank both Weihai Guangtai Airport EquipmentLtd's EBIT growth rate and its track record of converting EBIT to free cash flow make us rather uncomfortable with its debt levels. But on the bright side, its interest cover is a good sign, and makes us more optimistic. Looking at the balance sheet and taking into account all these factors, we do believe that debt is making Weihai Guangtai Airport EquipmentLtd stock a bit risky. Some people like that sort of risk, but we're mindful of the potential pitfalls, so we'd probably prefer it carry less debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with Weihai Guangtai Airport EquipmentLtd , and understanding them should be part of your investment process.

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.