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 Jiangsu Maixinlin Aviation Science and Technology Corp. (SHSE:688685) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

How Much Debt Does Jiangsu Maixinlin Aviation Science and Technology Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Jiangsu Maixinlin Aviation Science and Technology had CN¥754.3m of debt, an increase on CN¥13.0m, over one year. However, it does have CN¥108.5m in cash offsetting this, leading to net debt of about CN¥645.8m.

How Healthy Is Jiangsu Maixinlin Aviation Science and Technology's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Jiangsu Maixinlin Aviation Science and Technology had liabilities of CN¥1.08b due within 12 months and liabilities of CN¥168.0m due beyond that. On the other hand, it had cash of CN¥108.5m and CN¥303.9m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥833.5m.

Given Jiangsu Maixinlin Aviation Science and Technology has a market capitalization of CN¥5.76b, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Strangely Jiangsu Maixinlin Aviation Science and Technology has a sky high EBITDA ratio of 8.1, implying high debt, but a strong interest coverage of 133. So either it has access to very cheap long term debt or that interest expense is going to grow! Pleasingly, Jiangsu Maixinlin Aviation Science and Technology is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 117% gain in the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Jiangsu Maixinlin Aviation Science and Technology will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, Jiangsu Maixinlin Aviation Science and Technology saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

We weren't impressed with Jiangsu Maixinlin Aviation Science and Technology's net debt to EBITDA, and its conversion of EBIT to free cash flow made us cautious. But like a ballerina ending on a perfect pirouette, it has not trouble covering its interest expense with its EBIT. Looking at all this data makes us feel a little cautious about Jiangsu Maixinlin Aviation Science and Technology's debt levels. While debt does have its upside in higher potential returns, we think shareholders should definitely consider how debt levels might make the stock more risky. 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. For example, we've discovered 3 warning signs for Jiangsu Maixinlin Aviation Science and Technology that you should be aware of before investing here.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.