Is Shenzhen Sunlord ElectronicsLtd (SZSE:002138) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. Importantly, Shenzhen Sunlord Electronics Co.,Ltd. (SZSE:002138) does carry debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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 frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.

Check out our latest analysis for Shenzhen Sunlord ElectronicsLtd

How Much Debt Does Shenzhen Sunlord ElectronicsLtd Carry?

As you can see below, at the end of March 2024, Shenzhen Sunlord ElectronicsLtd had CN¥3.90b of debt, up from CN¥3.44b a year ago. Click the image for more detail. However, because it has a cash reserve of CN¥578.9m, its net debt is less, at about CN¥3.32b.

How Strong Is Shenzhen Sunlord ElectronicsLtd's Balance Sheet?

According to the last reported balance sheet, Shenzhen Sunlord ElectronicsLtd had liabilities of CN¥2.97b due within 12 months, and liabilities of CN¥3.05b due beyond 12 months. On the other hand, it had cash of CN¥578.9m and CN¥2.73b worth of receivables due within a year. So its liabilities total CN¥2.71b more than the combination of its cash and short-term receivables.

Given Shenzhen Sunlord ElectronicsLtd has a market capitalization of CN¥21.6b, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

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.

We'd say that Shenzhen Sunlord ElectronicsLtd's moderate net debt to EBITDA ratio ( being 2.2), indicates prudence when it comes to debt. And its strong interest cover of 10.7 times, makes us even more comfortable. Notably, Shenzhen Sunlord ElectronicsLtd's EBIT launched higher than Elon Musk, gaining a whopping 102% on last year. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Shenzhen Sunlord ElectronicsLtd's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

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. Considering the last three years, Shenzhen Sunlord ElectronicsLtd actually recorded a cash outflow, overall. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Our View

Shenzhen Sunlord ElectronicsLtd's EBIT growth rate was a real positive on this analysis, as was its interest cover. But truth be told its conversion of EBIT to free cash flow had us nibbling our nails. Considering this range of data points, we think Shenzhen Sunlord ElectronicsLtd is in a good position to manage its debt levels. But a word of caution: we think debt levels are high enough to justify ongoing monitoring. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 2 warning signs for Shenzhen Sunlord ElectronicsLtd that you should be aware of before investing here.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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