Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Niu Technologies (NASDAQ:NIU) does use debt in its business. But the real question is whether this debt is making the company risky.
When Is Debt A Problem?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.
How Much Debt Does Niu Technologies Carry?
The image below, which you can click on for greater detail, shows that Niu Technologies had debt of CN¥188.9m at the end of March 2020, a reduction from CN¥208.5m over a year. However, its balance sheet shows it holds CN¥724.7m in cash, so it actually has CN¥535.8m net cash.
How Strong Is Niu Technologies's Balance Sheet?
According to the last reported balance sheet, Niu Technologies had liabilities of CN¥594.2m due within 12 months, and liabilities of CN¥23.1m due beyond 12 months. Offsetting these obligations, it had cash of CN¥724.7m as well as receivables valued at CN¥59.6m due within 12 months. So it can boast CN¥167.0m more liquid assets than total liabilities.
Having regard to Niu Technologies's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the CN¥11.2b company is short on cash, but still worth keeping an eye on the balance sheet. Succinctly put, Niu Technologies boasts net cash, so it's fair to say it does not have a heavy debt load!
Although Niu Technologies made a loss at the EBIT level, last year, it was also good to see that it generated CN¥148m in EBIT over the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Niu Technologies 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. Niu Technologies may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. In the last year, Niu Technologies's free cash flow amounted to 25% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.
While it is always sensible to investigate a company's debt, in this case Niu Technologies has CN¥535.8m in net cash and a decent-looking balance sheet. So we are not troubled with Niu Technologies'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. To that end, you should be aware of the 1 warning sign we've spotted with Niu Technologies .
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.
This article by Simply Wall St is general in nature. 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.
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