These 4 Measures Indicate That Jinchuan Group International Resources (HKG:2362) 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.' 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. We can see that Jinchuan Group International Resources Co. Ltd (HKG:2362) does use debt in its business. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Jinchuan Group International Resources

How Much Debt Does Jinchuan Group International Resources Carry?

The chart below, which you can click on for greater detail, shows that Jinchuan Group International Resources had US$357.4m in debt in December 2021; about the same as the year before. On the flip side, it has US$218.8m in cash leading to net debt of about US$138.7m.

How Strong Is Jinchuan Group International Resources' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Jinchuan Group International Resources had liabilities of US$376.3m due within 12 months and liabilities of US$485.4m due beyond that. Offsetting this, it had US$218.8m in cash and US$64.0m in receivables that were due within 12 months. So its liabilities total US$579.0m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Jinchuan Group International Resources has a market capitalization of US$1.64b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Jinchuan Group International Resources has a low net debt to EBITDA ratio of only 0.36. And its EBIT easily covers its interest expense, being 36.4 times the size. So we're pretty relaxed about its super-conservative use of debt. Even more impressive was the fact that Jinchuan Group International Resources grew its EBIT by 289% over twelve months. That boost will make it even easier to pay down debt going forward. 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 Jinchuan Group International Resources can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. In the last three years, Jinchuan Group International Resources's free cash flow amounted to 36% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

Happily, Jinchuan Group International Resources's impressive interest cover implies it has the upper hand on its debt. But truth be told we feel its conversion of EBIT to free cash flow does undermine this impression a bit. When we consider the range of factors above, it looks like Jinchuan Group International Resources is pretty sensible with its use of debt. While that brings some risk, it can also enhance returns for shareholders. 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. We've identified 1 warning sign with Jinchuan Group International Resources , and understanding them should be part of your investment process.

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.