Here's Why Anhui Hengyuan Coal Industry and Electricity PowerLtd (SHSE:600971) Can Manage Its Debt Responsibly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. Importantly, Anhui Hengyuan Coal Industry and Electricity Power Co.,Ltd (SHSE:600971) does carry debt. But the real question is whether this debt is making the company risky.

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. If things get really bad, the lenders can take control of the business. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Anhui Hengyuan Coal Industry and Electricity PowerLtd

What Is Anhui Hengyuan Coal Industry and Electricity PowerLtd's Debt?

The chart below, which you can click on for greater detail, shows that Anhui Hengyuan Coal Industry and Electricity PowerLtd had CN¥1.94b in debt in September 2024; about the same as the year before. However, its balance sheet shows it holds CN¥6.54b in cash, so it actually has CN¥4.60b net cash.

How Strong Is Anhui Hengyuan Coal Industry and Electricity PowerLtd's Balance Sheet?

According to the last reported balance sheet, Anhui Hengyuan Coal Industry and Electricity PowerLtd had liabilities of CN¥5.28b due within 12 months, and liabilities of CN¥2.72b due beyond 12 months. Offsetting this, it had CN¥6.54b in cash and CN¥1.89b in receivables that were due within 12 months. So it actually has CN¥415.3m more liquid assets than total liabilities.

This surplus suggests that Anhui Hengyuan Coal Industry and Electricity PowerLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Anhui Hengyuan Coal Industry and Electricity PowerLtd has more cash than debt is arguably a good indication that it can manage its debt safely.

The modesty of its debt load may become crucial for Anhui Hengyuan Coal Industry and Electricity PowerLtd if management cannot prevent a repeat of the 52% cut to EBIT over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Anhui Hengyuan Coal Industry and Electricity PowerLtd 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. Anhui Hengyuan Coal Industry and Electricity PowerLtd 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. During the last three years, Anhui Hengyuan Coal Industry and Electricity PowerLtd generated free cash flow amounting to a very robust 87% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Anhui Hengyuan Coal Industry and Electricity PowerLtd has net cash of CN¥4.60b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥947m, being 87% of its EBIT. So we are not troubled with Anhui Hengyuan Coal Industry and Electricity PowerLtd's debt use. 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. For instance, we've identified 2 warning signs for Anhui Hengyuan Coal Industry and Electricity PowerLtd that you should be aware of.

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.