Does China Nonferrous Mining (HKG:1258) Have A Healthy Balance Sheet?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. We note that China Nonferrous Mining Corporation Limited (HKG:1258) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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.

Check out our latest analysis for China Nonferrous Mining

What Is China Nonferrous Mining's Net Debt?

As you can see below, China Nonferrous Mining had US$482.9m of debt at June 2023, down from US$842.8m a year prior. But it also has US$1.03b in cash to offset that, meaning it has US$543.0m net cash.

How Strong Is China Nonferrous Mining's Balance Sheet?

According to the last reported balance sheet, China Nonferrous Mining had liabilities of US$1.12b due within 12 months, and liabilities of US$478.6m due beyond 12 months. Offsetting these obligations, it had cash of US$1.03b as well as receivables valued at US$408.9m due within 12 months. So its liabilities total US$159.2m more than the combination of its cash and short-term receivables.

Of course, China Nonferrous Mining has a market capitalization of US$2.59b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, China Nonferrous Mining also has more cash than debt, so we're pretty confident it can manage its debt safely.

The modesty of its debt load may become crucial for China Nonferrous Mining if management cannot prevent a repeat of the 30% 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 it is future earnings, more than anything, that will determine China Nonferrous Mining's ability to maintain a healthy balance sheet going forward. 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. China Nonferrous Mining 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. During the last three years, China Nonferrous Mining generated free cash flow amounting to a very robust 80% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

We could understand if investors are concerned about China Nonferrous Mining's liabilities, but we can be reassured by the fact it has has net cash of US$543.0m. And it impressed us with free cash flow of US$919m, being 80% of its EBIT. So we don't have any problem with China Nonferrous Mining's use of debt. 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. To that end, you should be aware of the 1 warning sign we've spotted with China Nonferrous Mining .

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.