Is Titan Wind Energy (Suzhou)Ltd (SZSE:002531) A Risky Investment?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Titan Wind Energy (Suzhou) Co.,Ltd (SZSE:002531) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. If things get really bad, the lenders can take control of the business. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Titan Wind Energy (Suzhou)Ltd

What Is Titan Wind Energy (Suzhou)Ltd's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Titan Wind Energy (Suzhou)Ltd had CN¥10.00b of debt, an increase on CN¥8.27b, over one year. However, it does have CN¥569.5m in cash offsetting this, leading to net debt of about CN¥9.43b.

A Look At Titan Wind Energy (Suzhou)Ltd's Liabilities

According to the last reported balance sheet, Titan Wind Energy (Suzhou)Ltd had liabilities of CN¥8.40b due within 12 months, and liabilities of CN¥7.51b due beyond 12 months. On the other hand, it had cash of CN¥569.5m and CN¥5.57b worth of receivables due within a year. So its liabilities total CN¥9.77b more than the combination of its cash and short-term receivables.

This is a mountain of leverage relative to its market capitalization of CN¥14.4b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

With a net debt to EBITDA ratio of 5.0, it's fair to say Titan Wind Energy (Suzhou)Ltd does have a significant amount of debt. But the good news is that it boasts fairly comforting interest cover of 3.7 times, suggesting it can responsibly service its obligations. However, one redeeming factor is that Titan Wind Energy (Suzhou)Ltd grew its EBIT at 13% over the last 12 months, boosting its ability to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Titan Wind Energy (Suzhou)Ltd 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the last three years, Titan Wind Energy (Suzhou)Ltd barely recorded positive free cash flow, in total. While many companies do operate at break-even, we prefer see substantial free cash flow, especially if a it already has dead.

Our View

On the face of it, Titan Wind Energy (Suzhou)Ltd's conversion of EBIT to free cash flow left us tentative about the stock, and its net debt to EBITDA was no more enticing than the one empty restaurant on the busiest night of the year. But at least it's pretty decent at growing its EBIT; that's encouraging. Once we consider all the factors above, together, it seems to us that Titan Wind Energy (Suzhou)Ltd's debt is making it a bit risky. That's not necessarily a bad thing, but we'd generally feel more comfortable with less leverage. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for Titan Wind Energy (Suzhou)Ltd that you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.

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