Is Jiangsu Sidike New Materials Science & Technology (SZSE:300806) A Risky Investment?

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.' 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 Jiangsu Sidike New Materials Science & Technology Co., Ltd. (SZSE:300806) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt A Problem?

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 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Jiangsu Sidike New Materials Science & Technology

How Much Debt Does Jiangsu Sidike New Materials Science & Technology Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2023 Jiangsu Sidike New Materials Science & Technology had CN¥3.63b of debt, an increase on CN¥2.94b, over one year. However, because it has a cash reserve of CN¥308.1m, its net debt is less, at about CN¥3.32b.

A Look At Jiangsu Sidike New Materials Science & Technology's Liabilities

We can see from the most recent balance sheet that Jiangsu Sidike New Materials Science & Technology had liabilities of CN¥2.33b falling due within a year, and liabilities of CN¥2.59b due beyond that. Offsetting these obligations, it had cash of CN¥308.1m as well as receivables valued at CN¥1.18b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥3.43b.

This deficit is considerable relative to its market capitalization of CN¥4.03b, so it does suggest shareholders should keep an eye on Jiangsu Sidike New Materials Science & Technology's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Jiangsu Sidike New Materials Science & Technology shareholders face the double whammy of a high net debt to EBITDA ratio (11.5), and fairly weak interest coverage, since EBIT is just 1.3 times the interest expense. This means we'd consider it to have a heavy debt load. Worse, Jiangsu Sidike New Materials Science & Technology's EBIT was down 76% over the last year. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that debt. 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 Jiangsu Sidike New Materials Science & Technology can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, Jiangsu Sidike New Materials Science & Technology saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

To be frank both Jiangsu Sidike New Materials Science & Technology's conversion of EBIT to free cash flow and its track record of (not) growing its EBIT make us rather uncomfortable with its debt levels. And even its net debt to EBITDA fails to inspire much confidence. After considering the datapoints discussed, we think Jiangsu Sidike New Materials Science & Technology has too much debt. That sort of riskiness is ok for some, but it certainly doesn't float our boat. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 4 warning signs for Jiangsu Sidike New Materials Science & Technology you should be aware of, and 2 of them are significant.

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.