David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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, Ningbo ZhongDa Leader Intelligent Transmission Co., Ltd. (SZSE:002896) does carry debt. But the real question is whether this debt is making the company risky.
Why Does Debt Bring Risk?
Debt assists a business until the business has trouble paying it off, either with new capital or with free 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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
How Much Debt Does Ningbo ZhongDa Leader Intelligent Transmission Carry?
The image below, which you can click on for greater detail, shows that Ningbo ZhongDa Leader Intelligent Transmission had debt of CN¥80.1m at the end of September 2024, a reduction from CN¥140.3m over a year. However, its balance sheet shows it holds CN¥98.7m in cash, so it actually has CN¥18.7m net cash.
How Healthy Is Ningbo ZhongDa Leader Intelligent Transmission's Balance Sheet?
The latest balance sheet data shows that Ningbo ZhongDa Leader Intelligent Transmission had liabilities of CN¥340.3m due within a year, and liabilities of CN¥96.8m falling due after that. Offsetting this, it had CN¥98.7m in cash and CN¥280.7m in receivables that were due within 12 months. So it has liabilities totalling CN¥57.7m more than its cash and near-term receivables, combined.
This state of affairs indicates that Ningbo ZhongDa Leader Intelligent Transmission's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the CN¥5.35b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Ningbo ZhongDa Leader Intelligent Transmission also has more cash than debt, so we're pretty confident it can manage its debt safely.
Also good is that Ningbo ZhongDa Leader Intelligent Transmission grew its EBIT at 15% over the last year, further increasing its ability to manage debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Ningbo ZhongDa Leader Intelligent Transmission'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 Ningbo ZhongDa Leader Intelligent Transmission 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. Over the last three years, Ningbo ZhongDa Leader Intelligent Transmission recorded negative free cash flow, in total. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.
Summing Up
While it is always sensible to look at a company's total liabilities, it is very reassuring that Ningbo ZhongDa Leader Intelligent Transmission has CN¥18.7m in net cash. And it also grew its EBIT by 15% over the last year. So we are not troubled with Ningbo ZhongDa Leader Intelligent Transmission'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. For instance, we've identified 1 warning sign for Ningbo ZhongDa Leader Intelligent Transmission that you should be aware of.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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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.
