We Think Shanghai Chlor-Alkali Chemical (SHSE:600618) Can Stay On Top Of Its Debt

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. As with many other companies Shanghai Chlor-Alkali Chemical Co., Ltd. (SHSE:600618) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. 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.

Check out our latest analysis for Shanghai Chlor-Alkali Chemical

How Much Debt Does Shanghai Chlor-Alkali Chemical Carry?

You can click the graphic below for the historical numbers, but it shows that Shanghai Chlor-Alkali Chemical had CN¥649.3m of debt in September 2024, down from CN¥1.54b, one year before. But it also has CN¥2.42b in cash to offset that, meaning it has CN¥1.78b net cash.

How Healthy Is Shanghai Chlor-Alkali Chemical's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Shanghai Chlor-Alkali Chemical had liabilities of CN¥2.66b due within 12 months and liabilities of CN¥212.0m due beyond that. Offsetting this, it had CN¥2.42b in cash and CN¥623.9m in receivables that were due within 12 months. So it can boast CN¥181.3m more liquid assets than total liabilities.

This state of affairs indicates that Shanghai Chlor-Alkali Chemical's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the CN¥9.65b company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that Shanghai Chlor-Alkali Chemical has more cash than debt is arguably a good indication that it can manage its debt safely.

Also positive, Shanghai Chlor-Alkali Chemical grew its EBIT by 20% in the last year, and that should make it easier to pay down debt, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Shanghai Chlor-Alkali Chemical will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Shanghai Chlor-Alkali Chemical has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Shanghai Chlor-Alkali Chemical reported free cash flow worth 7.5% of its EBIT, which is really quite low. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case Shanghai Chlor-Alkali Chemical has CN¥1.78b in net cash and a decent-looking balance sheet. And we liked the look of last year's 20% year-on-year EBIT growth. So we are not troubled with Shanghai Chlor-Alkali Chemical's debt use. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Shanghai Chlor-Alkali Chemical is showing 1 warning sign in our investment analysis , 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.