Is Ningbo Fujia Industrial (SHSE:603219) 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.' 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. As with many other companies Ningbo Fujia Industrial Co., Ltd. (SHSE:603219) 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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Ningbo Fujia Industrial

How Much Debt Does Ningbo Fujia Industrial Carry?

As you can see below, at the end of September 2024, Ningbo Fujia Industrial had CN¥255.0m of debt, up from CN¥153.1m a year ago. Click the image for more detail. But on the other hand it also has CN¥565.1m in cash, leading to a CN¥310.1m net cash position.

How Healthy Is Ningbo Fujia Industrial's Balance Sheet?

According to the last reported balance sheet, Ningbo Fujia Industrial had liabilities of CN¥1.35b due within 12 months, and liabilities of CN¥32.1m due beyond 12 months. Offsetting this, it had CN¥565.1m in cash and CN¥921.0m in receivables that were due within 12 months. So it actually has CN¥103.4m more liquid assets than total liabilities.

This state of affairs indicates that Ningbo Fujia Industrial's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the CN¥7.12b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that Ningbo Fujia Industrial has more cash than debt is arguably a good indication that it can manage its debt safely.

On the other hand, Ningbo Fujia Industrial's EBIT dived 19%, over the last year. If that rate of decline in earnings continues, the company could find itself in a tight spot. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Ningbo Fujia Industrial's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Ningbo Fujia Industrial 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, Ningbo Fujia Industrial recorded free cash flow worth a fulsome 91% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case Ningbo Fujia Industrial has CN¥310.1m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of CN¥123m, being 91% of its EBIT. So we are not troubled with Ningbo Fujia Industrial's debt use. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Ningbo Fujia Industrial you should know about.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.