We believe that Grand Baoxin Auto Group (HKG: 1293) is taking risks with its debt


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. ” So it seems like smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess the level of risk of a business. We can see that Auto Grand Baoxin Group Limited (HKG: 1293) uses debt in his business. But the real question is whether this debt makes the business risky.

Why Does Debt Bring Risk?

Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. In the worst case scenario, a business can go bankrupt if it cannot pay its creditors. 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. The first step in examining a company’s debt levels is to consider its cash flow and debt together.

Check out our latest review for Grand Baoxin Auto Group

What is the debt of the Grand Baoxin Auto group?

The image below, which you can click for more details, shows Grand Baoxin Auto Group owed CN 6.39 billion in debt at the end of June 2021, a reduction from CN’s 9.79 billion over a year. However, he also had CN Â¥ 1.83b in cash, and therefore his net debt is CN Â¥ 4.55b.

SEHK: 1293 History of debt to equity October 15, 2021

How strong is Grand Baoxin Auto Group’s balance sheet?

The latest balance sheet data shows that Grand Baoxin Auto Group had debts of CN 12.4 billion due within one year, and debts of CN 5.19 billion due after that. In return, he had CN 1.83 billion in cash and CN 750.4 million in receivables due within 12 months. Thus, its liabilities total CN 15.0 billion more than the combination of its cash and short-term receivables.

Deficiency here weighs heavily on the CN ¥ 2.28b company itself, as if a child struggles under the weight of a huge backpack full of books, his sports equipment and a trumpet. So we would be watching its record closely, without a doubt. Ultimately, Grand Baoxin Auto Group would likely need a major recapitalization if its creditors demanded repayment.

We measure a company’s debt load relative to its earning capacity by looking at its net debt divided by its earnings before interest, taxes, depreciation, and amortization (EBITDA) and calculating how easily its earnings before interest and taxes (EBIT) covers its interest costs (interest coverage). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.

Grand Baoxin Auto Group has net debt of 2.5 times EBITDA, which isn’t too much, but its interest coverage looks a bit weak, with EBIT at just 2.6 times interest expense. While this doesn’t worry us too much, it does suggest that the interest payments are somewhat of a burden. We have seen Grand Baoxin Auto Group increase its EBIT by 2.7% over the past twelve months. It’s far from incredible, but it’s a good thing when it comes to paying down debt. When analyzing debt levels, the balance sheet is the obvious starting point. But ultimately, the company’s future profitability will decide whether Grand Baoxin Auto Group can strengthen its balance sheet over time. So, if you want to see what the professionals think, you might find this free analyst earnings forecast report interesting.

But our last consideration is also important, because a business cannot pay its debts with paper profits; he needs hard cash. It is therefore worth checking to what extent this EBIT is supported by free cash flow. Over the past three years, Grand Baoxin Auto Group has recorded free cash flow of 71% of its EBIT, which is close to normal given that free cash flow excludes interest and taxes. This free cash flow puts the business in a good position to repay debt, if any.

Our point of view

Reflecting on Grand Baoxin Auto Group’s attempt to stay above its total liabilities, we are certainly not enthusiastic. But on the positive side, its conversion from EBIT to free cash flow is a good sign and makes us more optimistic. Overall, we think it’s fair to say that Grand Baoxin Auto Group has enough debt that there is real risk around the balance sheet. If all goes well it may pay off, but the downside to this debt is a greater risk of permanent losses. There is no doubt that we learn the most about debt from the balance sheet. But at the end of the day, every business can contain risks that exist off the balance sheet. For example, we discovered 2 warning signs for Grand Baoxin Auto Group (1 is potentially serious!) Which you should be aware of before investing here.

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 net growth stocks.

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 shares 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 documents. Simply Wall St has no position in the mentioned stocks.

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