These 4 Measures Indicate That China Jinmao Holdings Group (HKG:817) Is Using Debt Extensively

Warren Buffett famously said, '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. We can see that China Jinmao Holdings Group Limited (HKG:817) does use debt in its business. But is this debt a concern to shareholders?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for China Jinmao Holdings Group

What Is China Jinmao Holdings Group's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 China Jinmao Holdings Group had CN¥113.2b of debt, an increase on CN¥100.9b, over one year. However, it does have CN¥48.1b in cash offsetting this, leading to net debt of about CN¥65.1b.

A Look At China Jinmao Holdings Group's Liabilities

Zooming in on the latest balance sheet data, we can see that China Jinmao Holdings Group had liabilities of CN¥197.1b due within 12 months and liabilities of CN¥88.8b due beyond that. Offsetting these obligations, it had cash of CN¥48.1b as well as receivables valued at CN¥47.4b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥190.5b.

This deficit casts a shadow over the CN¥29.0b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, China Jinmao Holdings Group would likely require a major re-capitalisation if it had to pay its creditors today.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

As it happens China Jinmao Holdings Group has a fairly concerning net debt to EBITDA ratio of 10.6 but very strong interest coverage of 1k. This means that unless the company has access to very cheap debt, that interest expense will likely grow in the future. Shareholders should be aware that China Jinmao Holdings Group's EBIT was down 35% last year. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if China Jinmao Holdings Group 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Happily for any shareholders, China Jinmao Holdings Group actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Our View

To be frank both China Jinmao Holdings Group's EBIT growth rate and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least it's pretty decent at covering its interest expense with its EBIT; that's encouraging. We're quite clear that we consider China Jinmao Holdings Group to be really rather risky, as a result of its balance sheet health. So we're almost as wary of this stock as a hungry kitten is about falling into its owner's fish pond: once bitten, twice shy, as they say. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 4 warning signs for China Jinmao Holdings Group you should be aware of.

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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