Is Maanshan Iron & Steel (HKG:323) Using Too Much Debt?

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.' 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. We note that Maanshan Iron & Steel Company Limited (HKG:323) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. 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.

View our latest analysis for Maanshan Iron & Steel

What Is Maanshan Iron & Steel's Net Debt?

As you can see below, at the end of September 2024, Maanshan Iron & Steel had CN¥21.5b of debt, up from CN¥18.0b a year ago. Click the image for more detail. On the flip side, it has CN¥6.91b in cash leading to net debt of about CN¥14.6b.

How Strong Is Maanshan Iron & Steel's Balance Sheet?

We can see from the most recent balance sheet that Maanshan Iron & Steel had liabilities of CN¥43.1b falling due within a year, and liabilities of CN¥8.78b due beyond that. On the other hand, it had cash of CN¥6.91b and CN¥4.84b worth of receivables due within a year. So it has liabilities totalling CN¥40.1b more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the CN¥16.0b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, Maanshan Iron & Steel would probably need a major re-capitalization if its creditors were to demand repayment. 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 Maanshan Iron & Steel'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.

In the last year Maanshan Iron & Steel had a loss before interest and tax, and actually shrunk its revenue by 11%, to CN¥87b. That's not what we would hope to see.

Caveat Emptor

Not only did Maanshan Iron & Steel's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost a very considerable CN¥1.8b at the EBIT level. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. That said, it is possible that the company will turn its fortunes around. But we think that is unlikely, given it is low on liquid assets, and burned through CN¥1.7b in the last year. So we consider this a high risk stock and we wouldn't be at all surprised if the company asks shareholders for money before long. 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. For example, we've discovered 1 warning sign for Maanshan Iron & Steel that you should be aware of before investing here.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.