Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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. As with many other companies Yangzijiang Shipbuilding (Holdings) Ltd. (SGX:BS6) makes use of debt. But is this debt a concern to shareholders?
Why Does Debt Bring Risk?
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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.
What Is Yangzijiang Shipbuilding (Holdings)'s Net Debt?
As you can see below, at the end of June 2024, Yangzijiang Shipbuilding (Holdings) had CN¥6.05b of debt, up from CN¥5.06b a year ago. Click the image for more detail. However, it does have CN¥22.3b in cash offsetting this, leading to net cash of CN¥16.2b.
A Look At Yangzijiang Shipbuilding (Holdings)'s Liabilities
The latest balance sheet data shows that Yangzijiang Shipbuilding (Holdings) had liabilities of CN¥19.7b due within a year, and liabilities of CN¥3.29b falling due after that. Offsetting this, it had CN¥22.3b in cash and CN¥6.23b in receivables that were due within 12 months. So it actually has CN¥5.49b more liquid assets than total liabilities.
This short term liquidity is a sign that Yangzijiang Shipbuilding (Holdings) could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Yangzijiang Shipbuilding (Holdings) boasts net cash, so it's fair to say it does not have a heavy debt load!
In addition to that, we're happy to report that Yangzijiang Shipbuilding (Holdings) has boosted its EBIT by 84%, thus reducing the spectre of future debt repayments. 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 Yangzijiang Shipbuilding (Holdings) can strengthen its balance sheet over time. 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 Yangzijiang Shipbuilding (Holdings) 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, Yangzijiang Shipbuilding (Holdings) actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.
Summing Up
While we empathize with investors who find debt concerning, you should keep in mind that Yangzijiang Shipbuilding (Holdings) has net cash of CN¥16.2b, as well as more liquid assets than liabilities. The cherry on top was that in converted 171% of that EBIT to free cash flow, bringing in CN¥12b. So is Yangzijiang Shipbuilding (Holdings)'s debt a risk? It doesn't seem so to us. Over time, share prices tend to follow earnings per share, so if you're interested in Yangzijiang Shipbuilding (Holdings), you may well want to click here to check an interactive graph of its earnings per share history.
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.
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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.
