Is Shaanxi Xinghua ChemistryLtd (SZSE:002109) Weighed On By Its Debt Load?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 can see that Shaanxi Xinghua Chemistry Co.,Ltd (SZSE:002109) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

Check out our latest analysis for Shaanxi Xinghua ChemistryLtd

How Much Debt Does Shaanxi Xinghua ChemistryLtd Carry?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Shaanxi Xinghua ChemistryLtd had CN¥4.22b of debt, an increase on CN¥3.77b, over one year. On the flip side, it has CN¥1.21b in cash leading to net debt of about CN¥3.01b.

How Strong Is Shaanxi Xinghua ChemistryLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Shaanxi Xinghua ChemistryLtd had liabilities of CN¥2.12b due within 12 months and liabilities of CN¥3.95b due beyond that. On the other hand, it had cash of CN¥1.21b and CN¥9.98m worth of receivables due within a year. So it has liabilities totalling CN¥4.85b more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of CN¥4.51b, we think shareholders really should watch Shaanxi Xinghua ChemistryLtd'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. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Shaanxi Xinghua ChemistryLtd will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Shaanxi Xinghua ChemistryLtd reported revenue of CN¥3.8b, which is a gain of 27%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.

Caveat Emptor

Even though Shaanxi Xinghua ChemistryLtd managed to grow its top line quite deftly, the cold hard truth is that it is losing money on the EBIT line. To be specific the EBIT loss came in at CN¥380m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it burned through CN¥26m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. 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 example Shaanxi Xinghua ChemistryLtd has 3 warning signs (and 2 which are concerning) we think you should know about.

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.