Is Zhejiang Provincial New Energy Investment Group (SHSE:600032) A Risky Investment?

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. Importantly, Zhejiang Provincial New Energy Investment Group Co., Ltd. (SHSE:600032) does carry debt. But the real question is whether this debt is making the company risky.

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.

Check out our latest analysis for Zhejiang Provincial New Energy Investment Group

How Much Debt Does Zhejiang Provincial New Energy Investment Group Carry?

As you can see below, at the end of September 2024, Zhejiang Provincial New Energy Investment Group had CN¥29.6b of debt, up from CN¥27.0b a year ago. Click the image for more detail. However, it does have CN¥2.68b in cash offsetting this, leading to net debt of about CN¥26.9b.

A Look At Zhejiang Provincial New Energy Investment Group's Liabilities

According to the last reported balance sheet, Zhejiang Provincial New Energy Investment Group had liabilities of CN¥7.71b due within 12 months, and liabilities of CN¥28.4b due beyond 12 months. On the other hand, it had cash of CN¥2.68b and CN¥8.69b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥24.8b.

When you consider that this deficiency exceeds the company's CN¥18.3b market capitalization, you might well be inclined to review the balance sheet intently. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

With a net debt to EBITDA ratio of 7.5, it's fair to say Zhejiang Provincial New Energy Investment Group does have a significant amount of debt. However, its interest coverage of 2.8 is reasonably strong, which is a good sign. Fortunately, Zhejiang Provincial New Energy Investment Group grew its EBIT by 2.8% in the last year, slowly shrinking its debt relative to earnings. 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 Zhejiang Provincial New Energy Investment Group'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 we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, Zhejiang Provincial New Energy Investment Group recorded negative free cash flow, in total. 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

To be frank both Zhejiang Provincial New Energy Investment Group's conversion of EBIT to free cash flow and its track record of managing its debt, based on its EBITDA, make us rather uncomfortable with its debt levels. But at least its EBIT growth rate is not so bad. Taking into account all the aforementioned factors, it looks like Zhejiang Provincial New Energy Investment Group 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. For example Zhejiang Provincial New Energy Investment Group has 2 warning signs (and 1 which is concerning) we think you should know about.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.