These 4 Measures Indicate That Xinjiang Beixin Road & Bridge Group (SZSE:002307) Is Using Debt In A Risky Way

Warren Buffett famously said, '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 Xinjiang Beixin Road & Bridge Group Co., Ltd (SZSE:002307) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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 think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Xinjiang Beixin Road & Bridge Group

What Is Xinjiang Beixin Road & Bridge Group's Net Debt?

As you can see below, at the end of September 2024, Xinjiang Beixin Road & Bridge Group had CN¥38.3b of debt, up from CN¥34.2b a year ago. Click the image for more detail. However, it does have CN¥4.38b in cash offsetting this, leading to net debt of about CN¥33.9b.

How Strong Is Xinjiang Beixin Road & Bridge Group's Balance Sheet?

The latest balance sheet data shows that Xinjiang Beixin Road & Bridge Group had liabilities of CN¥14.1b due within a year, and liabilities of CN¥37.3b falling due after that. On the other hand, it had cash of CN¥4.38b and CN¥5.91b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥41.1b.

The deficiency here weighs heavily on the CN¥5.49b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, Xinjiang Beixin Road & Bridge Group would likely require a major re-capitalisation if it had to pay its creditors today.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Weak interest cover of 1.2 times and a disturbingly high net debt to EBITDA ratio of 26.0 hit our confidence in Xinjiang Beixin Road & Bridge Group like a one-two punch to the gut. The debt burden here is substantial. Even more troubling is the fact that Xinjiang Beixin Road & Bridge Group actually let its EBIT decrease by 7.3% over the last year. If that earnings trend continues the company will face an uphill battle to pay off its debt. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Xinjiang Beixin Road & Bridge Group will need earnings to service that debt. 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Xinjiang Beixin Road & Bridge Group burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

To be frank both Xinjiang Beixin Road & Bridge Group's conversion of EBIT to free cash flow and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. And furthermore, its net debt to EBITDA also fails to instill confidence. We think the chances that Xinjiang Beixin Road & Bridge Group has too much debt a very significant. To us, that makes the stock rather risky, like walking through a dog park with your eyes closed. But some investors may feel differently. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Xinjiang Beixin Road & Bridge Group has 3 warning signs (and 2 which are concerning) we think you should know about.

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.