Warren Buffett famously said, '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 Yechiu Metal Recycling (China) Ltd. (SHSE:601388) makes use of debt. But the real question is whether this debt is making the company risky.
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. If things get really bad, the lenders can take control of the business. 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, 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.
What Is Yechiu Metal Recycling (China)'s Net Debt?
The image below, which you can click on for greater detail, shows that Yechiu Metal Recycling (China) had debt of CN¥885.6m at the end of September 2023, a reduction from CN¥1.09b over a year. However, its balance sheet shows it holds CN¥1.15b in cash, so it actually has CN¥267.6m net cash.
How Healthy Is Yechiu Metal Recycling (China)'s Balance Sheet?
We can see from the most recent balance sheet that Yechiu Metal Recycling (China) had liabilities of CN¥864.2m falling due within a year, and liabilities of CN¥512.5m due beyond that. Offsetting these obligations, it had cash of CN¥1.15b as well as receivables valued at CN¥655.7m due within 12 months. So it actually has CN¥432.2m more liquid assets than total liabilities.
This surplus suggests that Yechiu Metal Recycling (China) has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Yechiu Metal Recycling (China) has more cash than debt is arguably a good indication that it can manage its debt safely.
It is just as well that Yechiu Metal Recycling (China)'s load is not too heavy, because its EBIT was down 62% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. 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 Yechiu Metal Recycling (China)'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 company can only pay off debt with cold hard cash, not accounting profits. While Yechiu Metal Recycling (China) 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. In the last three years, Yechiu Metal Recycling (China)'s free cash flow amounted to 40% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.
Summing Up
While it is always sensible to investigate a company's debt, in this case Yechiu Metal Recycling (China) has CN¥267.6m in net cash and a decent-looking balance sheet. So we are not troubled with Yechiu Metal Recycling (China)'s debt use. 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 be aware of the 2 warning signs we've spotted with Yechiu Metal Recycling (China) .
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.
