Is Shaanxi Zhongtian Rocket Technology (SZSE:003009) 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. As with many other companies Shaanxi Zhongtian Rocket Technology Co., Ltd (SZSE:003009) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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 Shaanxi Zhongtian Rocket Technology

What Is Shaanxi Zhongtian Rocket Technology's Net Debt?

The image below, which you can click on for greater detail, shows that at June 2024 Shaanxi Zhongtian Rocket Technology had debt of CN¥708.7m, up from CN¥662.9m in one year. However, its balance sheet shows it holds CN¥1.11b in cash, so it actually has CN¥403.7m net cash.

How Healthy Is Shaanxi Zhongtian Rocket Technology's Balance Sheet?

The latest balance sheet data shows that Shaanxi Zhongtian Rocket Technology had liabilities of CN¥982.8m due within a year, and liabilities of CN¥499.9m falling due after that. Offsetting this, it had CN¥1.11b in cash and CN¥702.3m in receivables that were due within 12 months. So it actually has CN¥332.0m more liquid assets than total liabilities.

This short term liquidity is a sign that Shaanxi Zhongtian Rocket Technology could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Shaanxi Zhongtian Rocket Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Shaanxi Zhongtian Rocket Technology saw its EBIT drop by 2.8% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Shaanxi Zhongtian Rocket Technology's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Shaanxi Zhongtian Rocket Technology 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. Over the last three years, Shaanxi Zhongtian Rocket Technology recorded negative free cash flow, in total. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Shaanxi Zhongtian Rocket Technology has net cash of CN¥403.7m, as well as more liquid assets than liabilities. So we don't have any problem with Shaanxi Zhongtian Rocket Technology's use of debt. 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. We've identified 1 warning sign with Shaanxi Zhongtian Rocket Technology , and understanding them should be part of your investment process.

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.