These 4 Measures Indicate That Shanghai Anoky Group (SZSE:300067) Is Using Debt Extensively

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. We note that Shanghai Anoky Group Co., Ltd (SZSE:300067) does have debt on its balance sheet. 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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. 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 Anoky Group

How Much Debt Does Shanghai Anoky Group Carry?

The image below, which you can click on for greater detail, shows that at March 2024 Shanghai Anoky Group had debt of CN¥493.8m, up from CN¥465.3m in one year. However, it does have CN¥328.7m in cash offsetting this, leading to net debt of about CN¥165.1m.

How Strong Is Shanghai Anoky Group's Balance Sheet?

The latest balance sheet data shows that Shanghai Anoky Group had liabilities of CN¥648.5m due within a year, and liabilities of CN¥123.4m falling due after that. On the other hand, it had cash of CN¥328.7m and CN¥476.4m worth of receivables due within a year. So it can boast CN¥33.2m more liquid assets than total liabilities.

This state of affairs indicates that Shanghai Anoky Group's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the CN¥4.73b company is struggling for cash, we still think it's worth monitoring its balance sheet.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

While Shanghai Anoky Group's debt to EBITDA ratio (2.6) suggests that it uses some debt, its interest cover is very weak, at 0.61, suggesting high leverage. It seems that the business incurs large depreciation and amortisation charges, so maybe its debt load is heavier than it would first appear, since EBITDA is arguably a generous measure of earnings. It seems clear that the cost of borrowing money is negatively impacting returns for shareholders, of late. One redeeming factor for Shanghai Anoky Group is that it turned last year's EBIT loss into a gain of CN¥5.3m, over the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But it is Shanghai Anoky Group's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. During the last year, Shanghai Anoky Group burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

While Shanghai Anoky Group's interest cover makes us cautious about it, its track record of converting EBIT to free cash flow is no better. But its not so bad at staying on top of its total liabilities. Taking the abovementioned factors together we do think Shanghai Anoky Group's debt poses some risks to the business. While that debt can boost returns, we think the company has enough leverage now. 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. Case in point: We've spotted 5 warning signs for Shanghai Anoky Group you should be aware of, and 3 of them don't sit too well with us.

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.

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