Is BAIC Motor (HKG:1958) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies BAIC Motor Corporation Limited (HKG:1958) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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, 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.

View our latest analysis for BAIC Motor

How Much Debt Does BAIC Motor Carry?

The image below, which you can click on for greater detail, shows that BAIC Motor had debt of CN¥13.8b at the end of September 2022, a reduction from CN¥19.6b over a year. However, it does have CN¥42.0b in cash offsetting this, leading to net cash of CN¥28.2b.

How Strong Is BAIC Motor's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that BAIC Motor had liabilities of CN¥83.1b due within 12 months and liabilities of CN¥15.1b due beyond that. On the other hand, it had cash of CN¥42.0b and CN¥20.5b worth of receivables due within a year. So its liabilities total CN¥35.6b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the CN¥14.9b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, BAIC Motor would likely require a major re-capitalisation if it had to pay its creditors today. Given that BAIC Motor has more cash than debt, we're pretty confident it can handle its debt, despite the fact that it has a lot of liabilities in total.

Also good is that BAIC Motor grew its EBIT at 10% over the last year, further increasing its ability to manage debt. 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 BAIC Motor'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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While BAIC Motor has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the most recent three years, BAIC Motor recorded free cash flow worth 51% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While BAIC Motor does have more liabilities than liquid assets, it also has net cash of CN¥28.2b. And it also grew its EBIT by 10% over the last year. So while BAIC Motor does not have a great balance sheet, it's certainly not too bad. 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. Be aware that BAIC Motor is showing 1 warning sign in our investment analysis , you should know about...

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.