Is Shanghai Jinqiao Export Processing Zone DevelopmentLtd (SHSE:600639) Using Too Much Debt?

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 seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Shanghai Jinqiao Export Processing Zone Development Co.,Ltd (SHSE:600639) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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.

See our latest analysis for Shanghai Jinqiao Export Processing Zone DevelopmentLtd

What Is Shanghai Jinqiao Export Processing Zone DevelopmentLtd's Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2024 Shanghai Jinqiao Export Processing Zone DevelopmentLtd had CN¥16.0b of debt, an increase on CN¥14.0b, over one year. However, it also had CN¥5.43b in cash, and so its net debt is CN¥10.6b.

How Strong Is Shanghai Jinqiao Export Processing Zone DevelopmentLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Shanghai Jinqiao Export Processing Zone DevelopmentLtd had liabilities of CN¥14.6b due within 12 months and liabilities of CN¥12.9b due beyond that. On the other hand, it had cash of CN¥5.43b and CN¥234.7m worth of receivables due within a year. So its liabilities total CN¥21.8b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the CN¥9.75b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Shanghai Jinqiao Export Processing Zone DevelopmentLtd would likely require a major re-capitalisation if it had to pay its creditors today.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Shanghai Jinqiao Export Processing Zone DevelopmentLtd has a rather high debt to EBITDA ratio of 6.2 which suggests a meaningful debt load. But the good news is that it boasts fairly comforting interest cover of 5.8 times, suggesting it can responsibly service its obligations. Shareholders should be aware that Shanghai Jinqiao Export Processing Zone DevelopmentLtd's EBIT was down 61% last year. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. When analysing debt levels, the balance sheet is the obvious place to start. But it is Shanghai Jinqiao Export Processing Zone DevelopmentLtd'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Over the last three years, Shanghai Jinqiao Export Processing Zone DevelopmentLtd saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

To be frank both Shanghai Jinqiao Export Processing Zone DevelopmentLtd's EBIT growth rate and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. Having said that, its ability to cover its interest expense with its EBIT isn't such a worry. Considering all the factors previously mentioned, we think that Shanghai Jinqiao Export Processing Zone DevelopmentLtd really is carrying too much debt. To our minds, that means the stock is rather high risk, and probably one to avoid; but to each their own (investing) style. 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. Be aware that Shanghai Jinqiao Export Processing Zone DevelopmentLtd is showing 3 warning signs in our investment analysis , and 2 of those are a bit unpleasant...

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.