Hebei Construction Group (HKG:1727) Has A Somewhat Strained 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 can see that Hebei Construction Group Corporation Limited (HKG:1727) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Hebei Construction Group

How Much Debt Does Hebei Construction Group Carry?

The image below, which you can click on for greater detail, shows that at December 2022 Hebei Construction Group had debt of CN¥5.99b, up from CN¥5.48b in one year. However, it does have CN¥9.13b in cash offsetting this, leading to net cash of CN¥3.14b.

A Look At Hebei Construction Group's Liabilities

The latest balance sheet data shows that Hebei Construction Group had liabilities of CN¥58.8b due within a year, and liabilities of CN¥2.69b falling due after that. On the other hand, it had cash of CN¥9.13b and CN¥48.3b worth of receivables due within a year. So its liabilities total CN¥4.04b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the CN¥1.37b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, Hebei Construction Group would likely require a major re-capitalisation if it had to pay its creditors today. Given that Hebei Construction Group 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.

We also note that Hebei Construction Group improved its EBIT from a last year's loss to a positive CN¥757m. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Hebei Construction Group'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. Hebei Construction Group 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. Considering the last year, Hebei Construction Group actually recorded a cash outflow, overall. 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 Hebei Construction Group does have more liabilities than liquid assets, it also has net cash of CN¥3.14b. However, we do find both Hebei Construction Group's level of total liabilities and its conversion of EBIT to free cash flow troubling. So even though it has net cash, we do think the business has some risks worth watching. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Hebei Construction Group 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.