Is Xinyu Iron & Steel (SHSE:600782) Using Too Much Debt?

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 Xinyu Iron & Steel Co., Ltd (SHSE:600782) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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, 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.

View our latest analysis for Xinyu Iron & Steel

What Is Xinyu Iron & Steel's Debt?

The image below, which you can click on for greater detail, shows that at September 2023 Xinyu Iron & Steel had debt of CN¥4.07b, up from CN¥2.81b in one year. However, its balance sheet shows it holds CN¥4.37b in cash, so it actually has CN¥294.3m net cash.

How Healthy Is Xinyu Iron & Steel's Balance Sheet?

According to the last reported balance sheet, Xinyu Iron & Steel had liabilities of CN¥23.0b due within 12 months, and liabilities of CN¥2.18b due beyond 12 months. Offsetting these obligations, it had cash of CN¥4.37b as well as receivables valued at CN¥7.86b due within 12 months. So it has liabilities totalling CN¥13.0b more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of CN¥11.2b, we think shareholders really should watch Xinyu Iron & Steel'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. Xinyu Iron & Steel boasts net cash, so it's fair to say it does not have a heavy debt load, even if it does have very significant liabilities, in total. 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 Xinyu Iron & Steel 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.

Over 12 months, Xinyu Iron & Steel made a loss at the EBIT level, and saw its revenue drop to CN¥85b, which is a fall of 11%. That's not what we would hope to see.

So How Risky Is Xinyu Iron & Steel?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And in the last year Xinyu Iron & Steel had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of CN¥1.0b and booked a CN¥33m accounting loss. Given it only has net cash of CN¥294.3m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, we'd say the stock is a bit risky, and we're usually very cautious until we see positive free cash flow. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 1 warning sign for Xinyu Iron & Steel that you should be aware of.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.