These 4 Measures Indicate That Shenzhou International Group Holdings (HKG:2313) Is Using Debt Reasonably Well

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. Importantly, Shenzhou International Group Holdings Limited (HKG:2313) does carry debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Shenzhou International Group Holdings

How Much Debt Does Shenzhou International Group Holdings Carry?

The image below, which you can click on for greater detail, shows that at June 2022 Shenzhou International Group Holdings had debt of CN¥9.96b, up from CN¥7.85b in one year. However, its balance sheet shows it holds CN¥14.8b in cash, so it actually has CN¥4.84b net cash.

How Healthy Is Shenzhou International Group Holdings' Balance Sheet?

According to the last reported balance sheet, Shenzhou International Group Holdings had liabilities of CN¥12.8b due within 12 months, and liabilities of CN¥830.1m due beyond 12 months. Offsetting these obligations, it had cash of CN¥14.8b as well as receivables valued at CN¥5.21b due within 12 months. So it actually has CN¥6.33b more liquid assets than total liabilities.

This short term liquidity is a sign that Shenzhou International Group Holdings could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Shenzhou International Group Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

The modesty of its debt load may become crucial for Shenzhou International Group Holdings if management cannot prevent a repeat of the 42% cut to EBIT over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Shenzhou International Group 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. While Shenzhou International Group Holdings 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, Shenzhou International Group Holdings's free cash flow amounted to 49% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Shenzhou International Group Holdings has net cash of CN¥4.84b, as well as more liquid assets than liabilities. So we are not troubled with Shenzhou International Group Holdings'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 2 warning signs for Shenzhou International Group Holdings 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.