Is Zheneng Jinjiang Environment Holding (SGX:BWM) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. Importantly, Zheneng Jinjiang Environment Holding Company Limited (SGX:BWM) does carry debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Zheneng Jinjiang Environment Holding

What Is Zheneng Jinjiang Environment Holding's Net Debt?

As you can see below, at the end of September 2021, Zheneng Jinjiang Environment Holding had CN¥10.6b of debt, up from CN¥8.69b a year ago. Click the image for more detail. However, it does have CN¥426.5m in cash offsetting this, leading to net debt of about CN¥10.1b.

How Healthy Is Zheneng Jinjiang Environment Holding's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Zheneng Jinjiang Environment Holding had liabilities of CN¥5.67b due within 12 months and liabilities of CN¥7.80b due beyond that. Offsetting this, it had CN¥426.5m in cash and CN¥3.16b in receivables that were due within 12 months. So it has liabilities totalling CN¥9.89b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the CN¥4.39b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, Zheneng Jinjiang Environment Holding would probably need a major re-capitalization if its creditors were to demand repayment.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (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).

Weak interest cover of 1.9 times and a disturbingly high net debt to EBITDA ratio of 9.4 hit our confidence in Zheneng Jinjiang Environment Holding like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. Another concern for investors might be that Zheneng Jinjiang Environment Holding's EBIT fell 11% in the last year. If things keep going like that, handling the debt will about as easy as bundling an angry house cat into its travel box. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Zheneng Jinjiang Environment Holding 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Zheneng Jinjiang Environment Holding burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

To be frank both Zheneng Jinjiang Environment Holding's conversion of EBIT to free cash flow and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. And even its interest cover fails to inspire much confidence. Considering all the factors previously mentioned, we think that Zheneng Jinjiang Environment Holding really is carrying too much debt. To us, that makes the stock rather risky, like walking through a dog park with your eyes closed. But some investors may feel differently. 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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Zheneng Jinjiang Environment Holding (of which 2 are potentially serious!) you should know about.

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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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.