Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. Importantly, Jiangxi Ganyue Expressway CO.,LTD. (SHSE:600269) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, 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. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is Jiangxi Ganyue ExpresswayLTD's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Jiangxi Ganyue ExpresswayLTD had CN¥12.3b of debt, an increase on CN¥10.0b, over one year. However, it does have CN¥4.67b in cash offsetting this, leading to net debt of about CN¥7.66b.

How Healthy Is Jiangxi Ganyue ExpresswayLTD's Balance Sheet?

According to the last reported balance sheet, Jiangxi Ganyue ExpresswayLTD had liabilities of CN¥10.7b due within 12 months, and liabilities of CN¥5.34b due beyond 12 months. On the other hand, it had cash of CN¥4.67b and CN¥1.41b worth of receivables due within a year. So it has liabilities totalling CN¥9.97b more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of CN¥12.0b. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

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).

With net debt to EBITDA of 2.6 Jiangxi Ganyue ExpresswayLTD has a fairly noticeable amount of debt. But the high interest coverage of 7.7 suggests it can easily service that debt. One way Jiangxi Ganyue ExpresswayLTD could vanquish its debt would be if it stops borrowing more but continues to grow EBIT at around 15%, as it did over the last year. When analysing debt levels, the balance sheet is the obvious place to start. But it is Jiangxi Ganyue ExpresswayLTD's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Jiangxi Ganyue ExpresswayLTD produced sturdy free cash flow equating to 71% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

Jiangxi Ganyue ExpresswayLTD's conversion of EBIT to free cash flow was a real positive on this analysis, as was its EBIT growth rate. Having said that, its level of total liabilities somewhat sensitizes us to potential future risks to the balance sheet. It's also worth noting that Jiangxi Ganyue ExpresswayLTD is in the Infrastructure industry, which is often considered to be quite defensive. Considering this range of data points, we think Jiangxi Ganyue ExpresswayLTD is in a good position to manage its debt levels. But a word of caution: we think debt levels are high enough to justify ongoing monitoring. 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. Be aware that Jiangxi Ganyue ExpresswayLTD is showing 2 warning signs in our investment analysis , and 1 of those is significant...

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com