Is Tianshan Aluminum GroupLtd (SZSE:002532) A Risky Investment?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 note that Tianshan Aluminum Group Co.,Ltd (SZSE:002532) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. 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.

See our latest analysis for Tianshan Aluminum GroupLtd

What Is Tianshan Aluminum GroupLtd's Debt?

The image below, which you can click on for greater detail, shows that at March 2024 Tianshan Aluminum GroupLtd had debt of CN¥21.2b, up from CN¥16.1b in one year. On the flip side, it has CN¥7.95b in cash leading to net debt of about CN¥13.2b.

How Strong Is Tianshan Aluminum GroupLtd's Balance Sheet?

We can see from the most recent balance sheet that Tianshan Aluminum GroupLtd had liabilities of CN¥24.0b falling due within a year, and liabilities of CN¥8.08b due beyond that. Offsetting this, it had CN¥7.95b in cash and CN¥1.44b in receivables that were due within 12 months. So it has liabilities totalling CN¥22.7b more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of CN¥37.0b. 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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Tianshan Aluminum GroupLtd's debt is 2.7 times its EBITDA, and its EBIT cover its interest expense 4.5 times over. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Importantly Tianshan Aluminum GroupLtd's EBIT was essentially flat over the last twelve months. Ideally it can diminish its debt load by kick-starting earnings growth. 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 Tianshan Aluminum GroupLtd's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. In the last three years, Tianshan Aluminum GroupLtd's free cash flow amounted to 38% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Our View

While Tianshan Aluminum GroupLtd's net debt to EBITDA makes us cautious about it, its track record of staying on top of its total liabilities is no better. But its not so bad at growing its EBIT. When we consider all the factors discussed, it seems to us that Tianshan Aluminum GroupLtd is taking some risks with its use of debt. 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. Case in point: We've spotted 2 warning signs for Tianshan Aluminum GroupLtd 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.