These 4 Measures Indicate That Shengyi TechnologyLtd (SHSE:600183) Is Using Debt Reasonably Well

Warren Buffett famously said, '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. As with many other companies Shengyi Technology Co.,Ltd. (SHSE:600183) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Shengyi TechnologyLtd

What Is Shengyi TechnologyLtd's Debt?

The image below, which you can click on for greater detail, shows that Shengyi TechnologyLtd had debt of CN¥3.33b at the end of March 2024, a reduction from CN¥4.59b over a year. On the flip side, it has CN¥2.11b in cash leading to net debt of about CN¥1.23b.

A Look At Shengyi TechnologyLtd's Liabilities

We can see from the most recent balance sheet that Shengyi TechnologyLtd had liabilities of CN¥7.41b falling due within a year, and liabilities of CN¥1.48b due beyond that. Offsetting these obligations, it had cash of CN¥2.11b as well as receivables valued at CN¥7.31b due within 12 months. So it actually has CN¥527.5m more liquid assets than total liabilities.

Having regard to Shengyi TechnologyLtd's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the CN¥44.9b company is short on cash, but still worth keeping an eye on the 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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Shengyi TechnologyLtd has a low net debt to EBITDA ratio of only 0.54. And its EBIT easily covers its interest expense, being 22.6 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. But the other side of the story is that Shengyi TechnologyLtd saw its EBIT decline by 3.6% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Shengyi TechnologyLtd's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

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. Looking at the most recent three years, Shengyi TechnologyLtd recorded free cash flow of 39% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

The good news is that Shengyi TechnologyLtd's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. But, on a more sombre note, we are a little concerned by its EBIT growth rate. All these things considered, it appears that Shengyi TechnologyLtd can comfortably handle its current debt levels. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. 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. For example - Shengyi TechnologyLtd has 2 warning signs we think you should be aware of.

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.