We Think Sany Heavy Equipment International Holdings (HKG:631) Can Stay On Top Of Its Debt

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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Sany Heavy Equipment International Holdings Company Limited (HKG:631) does carry debt. But the more important question is: how much risk is that debt creating?

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 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 Sany Heavy Equipment International Holdings

How Much Debt Does Sany Heavy Equipment International Holdings Carry?

As you can see below, at the end of June 2022, Sany Heavy Equipment International Holdings had CN¥4.02b of debt, up from CN¥3.28b a year ago. Click the image for more detail. But on the other hand it also has CN¥5.37b in cash, leading to a CN¥1.35b net cash position.

How Healthy Is Sany Heavy Equipment International Holdings' Balance Sheet?

The latest balance sheet data shows that Sany Heavy Equipment International Holdings had liabilities of CN¥11.7b due within a year, and liabilities of CN¥2.15b falling due after that. On the other hand, it had cash of CN¥5.37b and CN¥7.03b worth of receivables due within a year. So its liabilities total CN¥1.46b more than the combination of its cash and short-term receivables.

Given Sany Heavy Equipment International Holdings has a market capitalization of CN¥22.1b, 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. While it does have liabilities worth noting, Sany Heavy Equipment International Holdings also has more cash than debt, so we're pretty confident it can manage its debt safely.

But the bad news is that Sany Heavy Equipment International Holdings has seen its EBIT plunge 11% in the last twelve months. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Sany Heavy Equipment International Holdings 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Sany Heavy Equipment International Holdings 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. Over the last three years, Sany Heavy Equipment International Holdings reported free cash flow worth 13% of its EBIT, which is really quite low. That limp level of cash conversion undermines its ability to manage and pay down debt.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Sany Heavy Equipment International Holdings has CN¥1.35b in net cash. So we don't have any problem with Sany Heavy Equipment International Holdings's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Sany Heavy Equipment International Holdings you should know about.

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.