Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. As with many other companies Zhejiang Yongtai Technology Co.,Ltd. (SZSE:002326) makes use of debt. But should shareholders be worried about its use of debt?
What Risk Does Debt Bring?
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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.
What Is Zhejiang Yongtai TechnologyLtd's Debt?
You can click the graphic below for the historical numbers, but it shows that as of September 2023 Zhejiang Yongtai TechnologyLtd had CN¥4.24b of debt, an increase on CN¥3.34b, over one year. However, it also had CN¥1.36b in cash, and so its net debt is CN¥2.89b.
How Strong Is Zhejiang Yongtai TechnologyLtd's Balance Sheet?
According to the last reported balance sheet, Zhejiang Yongtai TechnologyLtd had liabilities of CN¥5.07b due within 12 months, and liabilities of CN¥2.51b due beyond 12 months. Offsetting this, it had CN¥1.36b in cash and CN¥938.6m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥5.28b.
While this might seem like a lot, it is not so bad since Zhejiang Yongtai TechnologyLtd has a market capitalization of CN¥9.83b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Zhejiang Yongtai TechnologyLtd 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.
Over 12 months, Zhejiang Yongtai TechnologyLtd made a loss at the EBIT level, and saw its revenue drop to CN¥4.6b, which is a fall of 25%. That makes us nervous, to say the least.
Caveat Emptor
While Zhejiang Yongtai TechnologyLtd's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at CN¥93m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled CN¥737m in negative free cash flow over the last twelve months. So in short it's a really risky stock. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for Zhejiang Yongtai TechnologyLtd (of which 3 can't be ignored!) you should know about.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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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.