Howard Marks put it well when he said that, rather than worrying about stock price volatility, “the possibility of permanent loss is the risk I worry about … and every investor practice that I know is worried. It’s only natural to consider a company’s balance sheet when looking at its level of risk, as debt is often involved when a business collapses. We can see that CGN New Energy Holdings Co., Ltd. (HKG: 1811) uses debt in his business. But does this debt worry shareholders?
Why Does Debt Bring Risk?
Debts and other liabilities become risky for a business when it cannot easily meet these obligations, either with free cash flow or by raising capital at an attractive price. If things really go wrong, lenders can take over the business. However, a more common (but still costly) event is when a company has to issue stock at bargain prices, constantly diluting shareholders, just to strengthen its balance sheet. That said, the most common situation is where a business manages its debt reasonably well – and to its own advantage. When we look at debt levels, we first look at cash and debt levels, together.
Check out our latest analysis for CGN New Energy Holdings
What is the debt of CGN New Energy Holdings?
The image below, which you can click for more details, shows that in June 2021, CGN New Energy Holdings was in debt of US $ 5.77 billion, compared to US $ 4.20 billion in one. year. On the other hand, it has $ 306.5 million in cash, resulting in net debt of around $ 5.46 billion.
How healthy is CGN New Energy Holdings’ balance sheet?
Zooming in on the latest balance sheet data, we can see that CGN New Energy Holdings had US $ 2.50 billion liabilities due within 12 months and US $ 4.06 billion liabilities due beyond. . In return, he had $ 306.5 million in cash and $ 889.2 million in receivables due within 12 months. Its liabilities therefore total $ 5.37 billion more than the combination of its cash and short-term receivables.
Given that this deficit is actually greater than the company’s market cap of $ 3.77 billion, we think shareholders should really watch CGN New Energy Holdings’ debt levels, like a parent watching their bankruptcy. child riding a bicycle for the first time. In theory, extremely large dilution would be required if the company were forced to repay debts by raising capital at the current share price.
We use two main ratios to inform us about the levels of debt compared to earnings. The first is net debt divided by earnings before interest, taxes, depreciation, and amortization (EBITDA), while the second is the number of times its earnings before interest and taxes (EBIT) covers its interest expense (or its coverage of interest, for short). Thus, we look at debt versus earnings with and without amortization expenses.
Low interest coverage of 2.4 times and an unusually high Net Debt / EBITDA ratio of 8.9 affected our confidence in CGN New Energy Holdings like a punch in the gut. The debt burden here is considerable. Looking on the bright side, CGN New Energy Holdings has grown its EBIT silky 48% over the past year. Like a mother’s loving embrace of a newborn, this type of growth builds resilience, putting the business in a stronger position to manage debt. When analyzing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine CGN New Energy Holdings’ ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free Analyst Profit Forecast report interesting.
Finally, a business needs free cash flow to pay off debts; accounting profits are not enough. It is therefore worth checking to what extent this EBIT is supported by free cash flow. Over the past three years, CGN New Energy Holdings has spent a lot of money. While investors no doubt expect this situation to reverse in due course, it clearly means that its use of debt is riskier.
Our point of view
At first glance, CGN New Energy Holdings’ net debt to EBITDA left us hesitant about the stock, and its conversion from EBIT to free cash flow was no more attractive than the one empty restaurant in the past. of the busiest night of the year. But on the bright side, its EBIT growth rate is a good sign and makes us more optimistic. Overall, it seems to us that CGN New Energy Holdings’ balance sheet is really very risky for the company. We are therefore almost as wary of this stock as a hungry kitten falls into its owner’s fish pond: once bitten, twice shy, as they say. When analyzing debt levels, the balance sheet is the obvious place to start. However, not all investment risks lie on the balance sheet – far from it. To this end, you should inquire about the 3 warning signs We identified with CGN New Energy Holdings (including 2 which are significant).
If, after all of this, you’re more interested in a fast-growing company with a strong balance sheet, take a quick look at our list of cash-flow net-growth stocks.
Do you have any feedback on this item? Are you worried about the content? Get in touch with us directly. You can also send an email to the editorial team (at) simplywallst.com.
This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only 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 into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative material. Simply Wall St has no position in any of the stocks mentioned.