Is Jiangsu United Water TechnologyLtd (SHSE:603291) 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, Jiangsu United Water Technology Co.,Ltd. (SHSE:603291) does carry debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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. 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 examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Jiangsu United Water TechnologyLtd

What Is Jiangsu United Water TechnologyLtd's Debt?

As you can see below, Jiangsu United Water TechnologyLtd had CN¥837.6m of debt at March 2024, down from CN¥984.7m a year prior. On the flip side, it has CN¥198.6m in cash leading to net debt of about CN¥639.0m.

How Healthy Is Jiangsu United Water TechnologyLtd's Balance Sheet?

According to the last reported balance sheet, Jiangsu United Water TechnologyLtd had liabilities of CN¥748.4m due within 12 months, and liabilities of CN¥1.12b due beyond 12 months. On the other hand, it had cash of CN¥198.6m and CN¥426.8m worth of receivables due within a year. So it has liabilities totalling CN¥1.24b more than its cash and near-term receivables, combined.

This deficit isn't so bad because Jiangsu United Water TechnologyLtd is worth CN¥5.27b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Jiangsu United Water TechnologyLtd's net debt is sitting at a very reasonable 1.6 times its EBITDA, while its EBIT covered its interest expense just 5.9 times last year. While these numbers do not alarm us, it's worth noting that the cost of the company's debt is having a real impact. Jiangsu United Water TechnologyLtd grew its EBIT by 2.8% in the last year. Whilst that hardly knocks our socks off it is a positive when it comes to 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 Jiangsu United Water TechnologyLtd can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. In the last three years, Jiangsu United Water TechnologyLtd created free cash flow amounting to 12% of its EBIT, an uninspiring performance. That limp level of cash conversion undermines its ability to manage and pay down debt.

Our View

Based on what we've seen Jiangsu United Water TechnologyLtd is not finding it easy, given its conversion of EBIT to free cash flow, but the other factors we considered give us cause to be optimistic. In particular, we thought its net debt to EBITDA was a positive. We would also note that Water Utilities industry companies like Jiangsu United Water TechnologyLtd commonly do use debt without problems. When we consider all the factors mentioned above, we do feel a bit cautious about Jiangsu United Water TechnologyLtd's use of debt. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. 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. For instance, we've identified 2 warning signs for Jiangsu United Water TechnologyLtd that you should be aware of.

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.

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