Anhui Truchum Advanced Materials and Technology (SZSE:002171) Has A Somewhat Strained Balance Sheet

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.' 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 note that Anhui Truchum Advanced Materials and Technology Co., Ltd. (SZSE:002171) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Anhui Truchum Advanced Materials and Technology

How Much Debt Does Anhui Truchum Advanced Materials and Technology Carry?

As you can see below, at the end of March 2024, Anhui Truchum Advanced Materials and Technology had CN¥8.56b of debt, up from CN¥7.54b a year ago. Click the image for more detail. However, because it has a cash reserve of CN¥2.98b, its net debt is less, at about CN¥5.59b.

A Look At Anhui Truchum Advanced Materials and Technology's Liabilities

We can see from the most recent balance sheet that Anhui Truchum Advanced Materials and Technology had liabilities of CN¥8.29b falling due within a year, and liabilities of CN¥2.62b due beyond that. On the other hand, it had cash of CN¥2.98b and CN¥4.46b worth of receivables due within a year. So its liabilities total CN¥3.47b more than the combination of its cash and short-term receivables.

Anhui Truchum Advanced Materials and Technology has a market capitalization of CN¥9.24b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

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.

With a net debt to EBITDA ratio of 6.4, it's fair to say Anhui Truchum Advanced Materials and Technology does have a significant amount of debt. But the good news is that it boasts fairly comforting interest cover of 5.0 times, suggesting it can responsibly service its obligations. Notably, Anhui Truchum Advanced Materials and Technology's EBIT launched higher than Elon Musk, gaining a whopping 469% on last year. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Anhui Truchum Advanced Materials and Technology's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. During the last three years, Anhui Truchum Advanced Materials and Technology burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

Anhui Truchum Advanced Materials and Technology's conversion of EBIT to free cash flow and net debt to EBITDA definitely weigh on it, in our esteem. But its EBIT growth rate tells a very different story, and suggests some resilience. Taking the abovementioned factors together we do think Anhui Truchum Advanced Materials and Technology's debt poses some risks to the business. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 4 warning signs for Anhui Truchum Advanced Materials and Technology (2 make us uncomfortable) you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.