Yangzijiang Shipbuilding (Holdings) (SGX:BS6) Could Easily Take On More Debt

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.' 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 Yangzijiang Shipbuilding (Holdings) Ltd. (SGX:BS6) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Yangzijiang Shipbuilding (Holdings)

What Is Yangzijiang Shipbuilding (Holdings)'s Debt?

As you can see below, Yangzijiang Shipbuilding (Holdings) had CN¥4.57b of debt, at December 2022, which is about the same as the year before. You can click the chart for greater detail. But it also has CN¥12.5b in cash to offset that, meaning it has CN¥7.91b net cash.

How Healthy Is Yangzijiang Shipbuilding (Holdings)'s Balance Sheet?

According to the last reported balance sheet, Yangzijiang Shipbuilding (Holdings) had liabilities of CN¥12.3b due within 12 months, and liabilities of CN¥3.01b due beyond 12 months. On the other hand, it had cash of CN¥12.5b and CN¥9.27b worth of receivables due within a year. So it can boast CN¥6.48b more liquid assets than total liabilities.

This excess liquidity suggests that Yangzijiang Shipbuilding (Holdings) is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that Yangzijiang Shipbuilding (Holdings) has more cash than debt is arguably a good indication that it can manage its debt safely.

On the other hand, Yangzijiang Shipbuilding (Holdings)'s EBIT dived 12%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. 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 Yangzijiang Shipbuilding (Holdings)'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. Yangzijiang Shipbuilding (Holdings) 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. Over the last three years, Yangzijiang Shipbuilding (Holdings) recorded free cash flow worth a fulsome 88% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Yangzijiang Shipbuilding (Holdings) has net cash of CN¥7.91b, as well as more liquid assets than liabilities. The cherry on top was that in converted 88% of that EBIT to free cash flow, bringing in CN¥3.7b. So is Yangzijiang Shipbuilding (Holdings)'s debt a risk? It doesn't seem so to us. 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. Be aware that Yangzijiang Shipbuilding (Holdings) is showing 2 warning signs in our investment analysis , you should know about...

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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.