Here's Why China Aerospace International Holdings (HKG:31) Is Weighed Down By Its Debt Load

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.' 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. As with many other companies China Aerospace International Holdings Limited (HKG:31) makes use of debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for China Aerospace International Holdings

What Is China Aerospace International Holdings's Net Debt?

As you can see below, China Aerospace International Holdings had HK$1.39b of debt, at December 2023, which is about the same as the year before. You can click the chart for greater detail. But on the other hand it also has HK$1.72b in cash, leading to a HK$327.0m net cash position.

A Look At China Aerospace International Holdings' Liabilities

We can see from the most recent balance sheet that China Aerospace International Holdings had liabilities of HK$1.43b falling due within a year, and liabilities of HK$3.68b due beyond that. Offsetting these obligations, it had cash of HK$1.72b as well as receivables valued at HK$1.04b due within 12 months. So its liabilities total HK$2.35b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the HK$971.8m company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, China Aerospace International Holdings would likely require a major re-capitalisation if it had to pay its creditors today. Given that China Aerospace International Holdings has more cash than debt, we're pretty confident it can handle its debt, despite the fact that it has a lot of liabilities in total.

Shareholders should be aware that China Aerospace International Holdings's EBIT was down 60% last year. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since China Aerospace International Holdings will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While China Aerospace International 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. Looking at the most recent three years, China Aerospace International Holdings recorded free cash flow of 29% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While China Aerospace International Holdings does have more liabilities than liquid assets, it also has net cash of HK$327.0m. However, we do find both China Aerospace International Holdings's level of total liabilities and its EBIT growth rate troubling. So despite the cash, we do think it carries some risks. 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. To that end, you should learn about the 2 warning signs we've spotted with China Aerospace International Holdings (including 1 which is a bit unpleasant) .

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.