These 4 Measures Indicate That Shan Xi Hua Yang Group New EnergyLtd (SHSE:600348) Is Using Debt Extensively

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Shan Xi Hua Yang Group New Energy Co.,Ltd. (SHSE:600348) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 Shan Xi Hua Yang Group New EnergyLtd

What Is Shan Xi Hua Yang Group New EnergyLtd's Net Debt?

As you can see below, Shan Xi Hua Yang Group New EnergyLtd had CN¥20.2b of debt, at March 2024, which is about the same as the year before. You can click the chart for greater detail. However, because it has a cash reserve of CN¥15.8b, its net debt is less, at about CN¥4.39b.

A Look At Shan Xi Hua Yang Group New EnergyLtd's Liabilities

According to the last reported balance sheet, Shan Xi Hua Yang Group New EnergyLtd had liabilities of CN¥23.4b due within 12 months, and liabilities of CN¥14.7b due beyond 12 months. On the other hand, it had cash of CN¥15.8b and CN¥2.49b worth of receivables due within a year. So it has liabilities totalling CN¥19.9b more than its cash and near-term receivables, combined.

This deficit is considerable relative to its market capitalization of CN¥25.0b, so it does suggest shareholders should keep an eye on Shan Xi Hua Yang Group New EnergyLtd's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Shan Xi Hua Yang Group New EnergyLtd's net debt is only 0.47 times its EBITDA. And its EBIT easily covers its interest expense, being 20.1 times the size. So we're pretty relaxed about its super-conservative use of debt. In fact Shan Xi Hua Yang Group New EnergyLtd's saving grace is its low debt levels, because its EBIT has tanked 44% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Shan Xi Hua Yang Group New EnergyLtd 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Looking at the most recent three years, Shan Xi Hua Yang Group New EnergyLtd recorded free cash flow of 29% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

Mulling over Shan Xi Hua Yang Group New EnergyLtd's attempt at (not) growing its EBIT, we're certainly not enthusiastic. 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 Shan Xi Hua Yang Group New EnergyLtd stock a bit risky. That's not necessarily a bad thing, but we'd generally feel more comfortable with less leverage. 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 Shan Xi Hua Yang Group New EnergyLtd you should know about.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.

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