Is Shenghui Cleanness Group Holdings (HKG:2521) Using Too Much Debt?

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. Importantly, Shenghui Cleanness Group Holdings Limited (HKG:2521) does carry debt. But the more important question is: how much risk is that debt creating?

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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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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. When we think about a company's use of debt, we first look at cash and debt together.

How Much Debt Does Shenghui Cleanness Group Holdings Carry?

The image below, which you can click on for greater detail, shows that at December 2024 Shenghui Cleanness Group Holdings had debt of CN¥39.7m, up from none in one year. But it also has CN¥94.8m in cash to offset that, meaning it has CN¥55.0m net cash.

How Healthy Is Shenghui Cleanness Group Holdings' Balance Sheet?

The latest balance sheet data shows that Shenghui Cleanness Group Holdings had liabilities of CN¥164.6m due within a year, and liabilities of CN¥20.8m falling due after that. Offsetting these obligations, it had cash of CN¥94.8m as well as receivables valued at CN¥276.9m due within 12 months. So it actually has CN¥186.2m more liquid assets than total liabilities.

This excess liquidity is a great indication that Shenghui Cleanness Group Holdings' balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. Succinctly put, Shenghui Cleanness Group Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

See our latest analysis for Shenghui Cleanness Group Holdings

In fact Shenghui Cleanness Group Holdings's saving grace is its low debt levels, because its EBIT has tanked 32% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Shenghui Cleanness Group Holdings will need earnings to service that debt. 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. Shenghui Cleanness Group 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, Shenghui Cleanness Group Holdings recorded negative free cash flow, in total. 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 it is always sensible to investigate a company's debt, in this case Shenghui Cleanness Group Holdings has CN¥55.0m in net cash and a decent-looking balance sheet. So we are not troubled with Shenghui Cleanness Group Holdings's debt use. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with Shenghui Cleanness Group Holdings , and understanding them should be part of your investment process.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.