Is China Zhonghua Geotechnical Engineering Group (SZSE:002542) Using Too Much Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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. We note that China Zhonghua Geotechnical Engineering Group Co., Ltd. (SZSE:002542) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for China Zhonghua Geotechnical Engineering Group

What Is China Zhonghua Geotechnical Engineering Group's Net Debt?

As you can see below, at the end of March 2024, China Zhonghua Geotechnical Engineering Group had CN¥3.13b of debt, up from CN¥2.80b a year ago. Click the image for more detail. However, it does have CN¥597.4m in cash offsetting this, leading to net debt of about CN¥2.54b.

How Strong Is China Zhonghua Geotechnical Engineering Group's Balance Sheet?

The latest balance sheet data shows that China Zhonghua Geotechnical Engineering Group had liabilities of CN¥3.75b due within a year, and liabilities of CN¥1.85b falling due after that. On the other hand, it had cash of CN¥597.4m and CN¥4.75b worth of receivables due within a year. So its liabilities total CN¥244.1m more than the combination of its cash and short-term receivables.

Of course, China Zhonghua Geotechnical Engineering Group has a market capitalization of CN¥3.68b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. 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 China Zhonghua Geotechnical Engineering Group will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, China Zhonghua Geotechnical Engineering Group reported revenue of CN¥2.4b, which is a gain of 16%, although it did not report any earnings before interest and tax. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

Caveat Emptor

Importantly, China Zhonghua Geotechnical Engineering Group had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost a very considerable CN¥733m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through CN¥51m of cash over the last year. So to be blunt we think it 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. Case in point: We've spotted 2 warning signs for China Zhonghua Geotechnical Engineering Group you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.