Is Anyuan Coal Industry Group (SHSE:600397) Using Debt In A Risky Way?

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 Anyuan Coal Industry Group Co., Ltd. (SHSE:600397) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. 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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Anyuan Coal Industry Group

What Is Anyuan Coal Industry Group's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Anyuan Coal Industry Group had CN¥4.68b of debt, an increase on CN¥4.33b, over one year. However, it also had CN¥1.10b in cash, and so its net debt is CN¥3.58b.

How Strong Is Anyuan Coal Industry Group's Balance Sheet?

The latest balance sheet data shows that Anyuan Coal Industry Group had liabilities of CN¥6.75b due within a year, and liabilities of CN¥1.17b falling due after that. Offsetting these obligations, it had cash of CN¥1.10b as well as receivables valued at CN¥1.89b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥4.93b.

Given this deficit is actually higher than the company's market capitalization of CN¥4.56b, we think shareholders really should watch Anyuan Coal Industry Group's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Anyuan Coal Industry 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, Anyuan Coal Industry Group made a loss at the EBIT level, and saw its revenue drop to CN¥5.8b, which is a fall of 16%. We would much prefer see growth.

Caveat Emptor

Not only did Anyuan Coal Industry Group's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). To be specific the EBIT loss came in at CN¥142m. Considering that alongside the liabilities mentioned above make us nervous about the company. It would need to improve its operations quickly for us to be interested in it. It's fair to say the loss of CN¥310m didn't encourage us either; we'd like to see a profit. And until that time we think this is a risky stock. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 2 warning signs we've spotted with Anyuan Coal Industry Group (including 1 which doesn't sit too well with us) .

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.