We Think Inner Mongolia Junzheng Energy & Chemical GroupLtd (SHSE:601216) Can Stay On Top Of Its 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 can see that Inner Mongolia Junzheng Energy & Chemical Group Co.,Ltd. (SHSE:601216) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Inner Mongolia Junzheng Energy & Chemical GroupLtd

What Is Inner Mongolia Junzheng Energy & Chemical GroupLtd's Debt?

As you can see below, Inner Mongolia Junzheng Energy & Chemical GroupLtd had CN¥3.09b of debt at March 2024, down from CN¥3.38b a year prior. But on the other hand it also has CN¥3.73b in cash, leading to a CN¥642.0m net cash position.

A Look At Inner Mongolia Junzheng Energy & Chemical GroupLtd's Liabilities

Zooming in on the latest balance sheet data, we can see that Inner Mongolia Junzheng Energy & Chemical GroupLtd had liabilities of CN¥8.85b due within 12 months and liabilities of CN¥3.20b due beyond that. Offsetting these obligations, it had cash of CN¥3.73b as well as receivables valued at CN¥2.04b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥6.28b.

This deficit isn't so bad because Inner Mongolia Junzheng Energy & Chemical GroupLtd is worth CN¥31.1b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. Despite its noteworthy liabilities, Inner Mongolia Junzheng Energy & Chemical GroupLtd boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for Inner Mongolia Junzheng Energy & Chemical GroupLtd if management cannot prevent a repeat of the 37% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But it is Inner Mongolia Junzheng Energy & Chemical GroupLtd's earnings that will influence how the balance sheet holds up in the future. 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 Inner Mongolia Junzheng Energy & Chemical GroupLtd 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. During the last three years, Inner Mongolia Junzheng Energy & Chemical GroupLtd produced sturdy free cash flow equating to 67% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While Inner Mongolia Junzheng Energy & Chemical GroupLtd does have more liabilities than liquid assets, it also has net cash of CN¥642.0m. The cherry on top was that in converted 67% of that EBIT to free cash flow, bringing in -CN¥1.4b. So we don't have any problem with Inner Mongolia Junzheng Energy & Chemical GroupLtd's use of debt. 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. We've identified 1 warning sign with Inner Mongolia Junzheng Energy & Chemical GroupLtd , and understanding them should be part of your investment process.

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.