Tongling Nonferrous Metals GroupLtd (SZSE:000630) Has A Pretty Healthy Balance Sheet

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.' 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. We note that Tongling Nonferrous Metals Group Co.,Ltd. (SZSE:000630) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Tongling Nonferrous Metals GroupLtd

What Is Tongling Nonferrous Metals GroupLtd's Net Debt?

As you can see below, at the end of March 2024, Tongling Nonferrous Metals GroupLtd had CN¥24.7b of debt, up from CN¥20.5b a year ago. Click the image for more detail. However, it also had CN¥12.0b in cash, and so its net debt is CN¥12.7b.

How Healthy Is Tongling Nonferrous Metals GroupLtd's Balance Sheet?

The latest balance sheet data shows that Tongling Nonferrous Metals GroupLtd had liabilities of CN¥27.3b due within a year, and liabilities of CN¥14.4b falling due after that. Offsetting this, it had CN¥12.0b in cash and CN¥5.05b in receivables that were due within 12 months. So it has liabilities totalling CN¥24.6b more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Tongling Nonferrous Metals GroupLtd has a market capitalization of CN¥50.9b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without 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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Tongling Nonferrous Metals GroupLtd has net debt of just 1.3 times EBITDA, suggesting it could ramp leverage without breaking a sweat. But the really cool thing is that it actually managed to receive more interest than it paid, over the last year. So it's fair to say it can handle debt like a hotshot teppanyaki chef handles cooking. On top of that, Tongling Nonferrous Metals GroupLtd grew its EBIT by 57% over the last twelve months, and that growth will make it easier to handle its debt. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Tongling Nonferrous Metals GroupLtd's ability to maintain a healthy balance sheet going forward. 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. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the most recent three years, Tongling Nonferrous Metals GroupLtd recorded free cash flow worth 73% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

The good news is that Tongling Nonferrous Metals GroupLtd's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. But truth be told we feel its level of total liabilities does undermine this impression a bit. Looking at the bigger picture, we think Tongling Nonferrous Metals GroupLtd's use of debt seems quite reasonable and we're not concerned about it. While debt does bring risk, when used wisely it can also bring a higher return on equity. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 2 warning signs for Tongling Nonferrous Metals GroupLtd that you should be aware of before investing here.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.