China Railway Materials (SZSE:000927) Has A Pretty Healthy Balance Sheet

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that '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. We note that China Railway Materials Company Limited (SZSE:000927) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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 China Railway Materials

How Much Debt Does China Railway Materials Carry?

As you can see below, at the end of December 2023, China Railway Materials had CN¥2.20b of debt, up from CN¥1.97b a year ago. Click the image for more detail. But on the other hand it also has CN¥5.09b in cash, leading to a CN¥2.89b net cash position.

How Strong Is China Railway Materials' Balance Sheet?

We can see from the most recent balance sheet that China Railway Materials had liabilities of CN¥14.0b falling due within a year, and liabilities of CN¥1.02b due beyond that. Offsetting these obligations, it had cash of CN¥5.09b as well as receivables valued at CN¥10.8b due within 12 months. So it can boast CN¥920.1m more liquid assets than total liabilities.

This surplus suggests that China Railway Materials has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that China Railway Materials has more cash than debt is arguably a good indication that it can manage its debt safely.

The modesty of its debt load may become crucial for China Railway Materials if management cannot prevent a repeat of the 36% cut to EBIT over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. The balance sheet is clearly the area to focus on when you are analysing debt. But it is China Railway Materials'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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. China Railway Materials may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, China Railway Materials recorded negative free cash flow, in total. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Summing Up

While it is always sensible to investigate a company's debt, in this case China Railway Materials has CN¥2.89b in net cash and a decent-looking balance sheet. So we are not troubled with China Railway Materials's debt use. 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 1 warning sign for China Railway Materials that you should be aware of before investing here.

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.