Beijing Dabeinong Technology GroupLtd (SZSE:002385) Has A Somewhat Strained Balance Sheet

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. We note that Beijing Dabeinong Technology Group Co.,Ltd. (SZSE:002385) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Beijing Dabeinong Technology GroupLtd

How Much Debt Does Beijing Dabeinong Technology GroupLtd Carry?

As you can see below, Beijing Dabeinong Technology GroupLtd had CN¥11.9b of debt, at September 2024, which is about the same as the year before. You can click the chart for greater detail. However, it does have CN¥4.08b in cash offsetting this, leading to net debt of about CN¥7.81b.

A Look At Beijing Dabeinong Technology GroupLtd's Liabilities

The latest balance sheet data shows that Beijing Dabeinong Technology GroupLtd had liabilities of CN¥15.8b due within a year, and liabilities of CN¥3.78b falling due after that. Offsetting this, it had CN¥4.08b in cash and CN¥1.92b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥13.6b.

This deficit is considerable relative to its market capitalization of CN¥19.1b, so it does suggest shareholders should keep an eye on Beijing Dabeinong Technology GroupLtd's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Weak interest cover of 0.17 times and a disturbingly high net debt to EBITDA ratio of 6.4 hit our confidence in Beijing Dabeinong Technology GroupLtd like a one-two punch to the gut. The debt burden here is substantial. Even worse, Beijing Dabeinong Technology GroupLtd saw its EBIT tank 88% over the last 12 months. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that debt. 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 Beijing Dabeinong Technology GroupLtd 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 clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the most recent two years, Beijing Dabeinong Technology GroupLtd recorded free cash flow worth 77% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Our View

To be frank both Beijing Dabeinong Technology GroupLtd's interest cover and its track record of (not) growing its EBIT make us rather uncomfortable with its debt levels. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Looking at the bigger picture, it seems clear to us that Beijing Dabeinong Technology GroupLtd's use of debt is creating risks for the company. If everything goes well that may pay off but the downside of this debt is a greater risk of permanent losses. 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 3 warning signs we've spotted with Beijing Dabeinong Technology GroupLtd (including 1 which shouldn't be ignored) .

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.