Does Shanghai Electric Group (HKG:2727) Have A Healthy Balance Sheet?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Shanghai Electric Group Company Limited (HKG:2727) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Shanghai Electric Group

What Is Shanghai Electric Group's Debt?

You can click the graphic below for the historical numbers, but it shows that Shanghai Electric Group had CN¥38.2b of debt in December 2021, down from CN¥41.8b, one year before. On the flip side, it has CN¥33.0b in cash leading to net debt of about CN¥5.21b.

A Look At Shanghai Electric Group's Liabilities

Zooming in on the latest balance sheet data, we can see that Shanghai Electric Group had liabilities of CN¥168.9b due within 12 months and liabilities of CN¥33.8b due beyond that. Offsetting these obligations, it had cash of CN¥33.0b as well as receivables valued at CN¥111.5b due within 12 months. So it has liabilities totalling CN¥58.2b more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of CN¥57.4b, we think shareholders really should watch Shanghai Electric Group'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. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Shanghai Electric 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.

Over 12 months, Shanghai Electric Group made a loss at the EBIT level, and saw its revenue drop to CN¥131b, which is a fall of 4.3%. That's not what we would hope to see.

Caveat Emptor

Over the last twelve months Shanghai Electric Group produced an earnings before interest and tax (EBIT) loss. Its EBIT loss was a whopping CN¥8.6b. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. Not least because it burned through CN¥9.6b in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 1 warning sign for Shanghai Electric Group that you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.