These 4 Measures Indicate That CIMC Vehicles (Group) (HKG:1839) Is Using Debt Reasonably Well

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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 CIMC Vehicles (Group) Co., Ltd. (HKG:1839) makes use of debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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 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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out the opportunities and risks within the HK Machinery industry.

How Much Debt Does CIMC Vehicles (Group) Carry?

You can click the graphic below for the historical numbers, but it shows that CIMC Vehicles (Group) had CN¥1.02b of debt in September 2022, down from CN¥1.30b, one year before. However, it does have CN¥4.40b in cash offsetting this, leading to net cash of CN¥3.38b.

A Look At CIMC Vehicles (Group)'s Liabilities

Zooming in on the latest balance sheet data, we can see that CIMC Vehicles (Group) had liabilities of CN¥8.82b due within 12 months and liabilities of CN¥789.3m due beyond that. Offsetting this, it had CN¥4.40b in cash and CN¥4.25b in receivables that were due within 12 months. So its liabilities total CN¥953.6m more than the combination of its cash and short-term receivables.

Given CIMC Vehicles (Group) has a market capitalization of CN¥15.2b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, CIMC Vehicles (Group) boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that CIMC Vehicles (Group)'s load is not too heavy, because its EBIT was down 23% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine CIMC Vehicles (Group)'s ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While CIMC Vehicles (Group) 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. In the last three years, CIMC Vehicles (Group)'s free cash flow amounted to 24% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that CIMC Vehicles (Group) has CN¥3.38b in net cash. So we are not troubled with CIMC Vehicles (Group)'s debt use. 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 CIMC Vehicles (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.