Here's Why Yuan Long Ping High-Tech Agriculture (SZSE:000998) Has A Meaningful Debt Burden

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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Yuan Long Ping High-Tech Agriculture Co., Ltd. (SZSE:000998) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Yuan Long Ping High-Tech Agriculture

What Is Yuan Long Ping High-Tech Agriculture's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Yuan Long Ping High-Tech Agriculture had CN¥12.0b of debt, an increase on CN¥5.80b, over one year. However, because it has a cash reserve of CN¥3.73b, its net debt is less, at about CN¥8.22b.

How Strong Is Yuan Long Ping High-Tech Agriculture's Balance Sheet?

We can see from the most recent balance sheet that Yuan Long Ping High-Tech Agriculture had liabilities of CN¥12.2b falling due within a year, and liabilities of CN¥6.05b due beyond that. Offsetting this, it had CN¥3.73b in cash and CN¥1.37b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥13.1b.

This is a mountain of leverage relative to its market capitalization of CN¥15.0b. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

While Yuan Long Ping High-Tech Agriculture's debt to EBITDA ratio of 6.4 suggests a heavy debt load, its interest coverage of 7.3 implies it services that debt with ease. Overall we'd say it seems likely the company is carrying a fairly heavy swag of debt. Pleasingly, Yuan Long Ping High-Tech Agriculture is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 703% gain in the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Yuan Long Ping High-Tech Agriculture 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 the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last two years, Yuan Long Ping High-Tech Agriculture burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

To be frank both Yuan Long Ping High-Tech Agriculture's net debt to EBITDA and its track record of converting EBIT to free cash flow make us rather uncomfortable with its debt levels. But at least it's pretty decent at growing its EBIT; that's encouraging. Once we consider all the factors above, together, it seems to us that Yuan Long Ping High-Tech Agriculture's debt is making it a bit risky. Some people like that sort of risk, but we're mindful of the potential pitfalls, so we'd probably prefer it carry less debt. 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 2 warning signs for Yuan Long Ping High-Tech Agriculture (of which 1 is concerning!) 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.