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. We note that Shandong Chenming Paper Holdings Limited (SZSE:000488) does have debt on its balance sheet. But is this debt a concern to shareholders?
Why Does Debt Bring Risk?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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 step when considering a company's debt levels is to consider its cash and debt together.
What Is Shandong Chenming Paper Holdings's Net Debt?
As you can see below, Shandong Chenming Paper Holdings had CN¥42.4b of debt, at March 2024, which is about the same as the year before. You can click the chart for greater detail. However, it does have CN¥13.3b in cash offsetting this, leading to net debt of about CN¥29.1b.
A Look At Shandong Chenming Paper Holdings' Liabilities
Zooming in on the latest balance sheet data, we can see that Shandong Chenming Paper Holdings had liabilities of CN¥50.9b due within 12 months and liabilities of CN¥8.38b due beyond that. Offsetting these obligations, it had cash of CN¥13.3b as well as receivables valued at CN¥9.34b due within 12 months. So it has liabilities totalling CN¥36.7b more than its cash and near-term receivables, combined.
This deficit casts a shadow over the CN¥8.33b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Shandong Chenming Paper Holdings would likely require a major re-capitalisation if it had to pay its creditors today. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Shandong Chenming Paper Holdings can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
In the last year Shandong Chenming Paper Holdings had a loss before interest and tax, and actually shrunk its revenue by 8.2%, to CN¥27b. That's not what we would hope to see.
Caveat Emptor
Importantly, Shandong Chenming Paper Holdings had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost CN¥26m at the EBIT level. Combining this information with the significant liabilities we already touched on makes us very hesitant about this stock, to say the least. That said, it is possible that the company will turn its fortunes around. Nevertheless, we would not bet on it given that it lost CN¥1.0b in just last twelve months, and it doesn't have much by way of liquid assets. So we think this stock is quite risky. We'd prefer to pass. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 1 warning sign for Shandong Chenming Paper Holdings that you should be aware of.
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.
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.