Is Ningxia Jiaze Renewables (SHSE:601619) A Risky Investment?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Ningxia Jiaze Renewables Corporation Limited (SHSE:601619) makes use of debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Ningxia Jiaze Renewables

What Is Ningxia Jiaze Renewables's Debt?

The image below, which you can click on for greater detail, shows that at March 2024 Ningxia Jiaze Renewables had debt of CN¥5.12b, up from CN¥4.04b in one year. However, because it has a cash reserve of CN¥768.2m, its net debt is less, at about CN¥4.36b.

How Strong Is Ningxia Jiaze Renewables' Balance Sheet?

According to the last reported balance sheet, Ningxia Jiaze Renewables had liabilities of CN¥2.02b due within 12 months, and liabilities of CN¥12.2b due beyond 12 months. Offsetting this, it had CN¥768.2m in cash and CN¥3.54b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥9.91b.

Given this deficit is actually higher than the company's market capitalization of CN¥8.35b, we think shareholders really should watch Ningxia Jiaze Renewables's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Ningxia Jiaze Renewables's net debt to EBITDA ratio of about 2.3 suggests only moderate use of debt. And its commanding EBIT of 15.8 times its interest expense, implies the debt load is as light as a peacock feather. Importantly Ningxia Jiaze Renewables's EBIT was essentially flat over the last twelve months. We would prefer to see some earnings growth, because that always helps diminish debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Ningxia Jiaze Renewables can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

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. Looking at the most recent three years, Ningxia Jiaze Renewables recorded free cash flow of 28% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

We'd go so far as to say Ningxia Jiaze Renewables's level of total liabilities was disappointing. But on the bright side, its interest cover is a good sign, and makes us more optimistic. Once we consider all the factors above, together, it seems to us that Ningxia Jiaze Renewables's debt is making it a bit risky. That's not necessarily a bad thing, but we'd generally feel more comfortable with less leverage. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 2 warning signs we've spotted with Ningxia Jiaze Renewables .

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.