Here's Why Tibet GaoZheng Explosive (SZSE:002827) Can Manage Its Debt Responsibly

Warren Buffett famously said, '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. As with many other companies Tibet GaoZheng Explosive Co., Ltd. (SZSE:002827) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Tibet GaoZheng Explosive

How Much Debt Does Tibet GaoZheng Explosive Carry?

As you can see below, at the end of June 2024, Tibet GaoZheng Explosive had CN¥1.14b of debt, up from CN¥908.5m a year ago. Click the image for more detail. On the flip side, it has CN¥664.0m in cash leading to net debt of about CN¥478.6m.

How Strong Is Tibet GaoZheng Explosive's Balance Sheet?

We can see from the most recent balance sheet that Tibet GaoZheng Explosive had liabilities of CN¥928.2m falling due within a year, and liabilities of CN¥664.9m due beyond that. On the other hand, it had cash of CN¥664.0m and CN¥1.01b worth of receivables due within a year. So it can boast CN¥81.9m more liquid assets than total liabilities.

Having regard to Tibet GaoZheng Explosive's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the CN¥6.54b company is struggling for cash, we still think it's worth monitoring its balance sheet.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Tibet GaoZheng Explosive's net debt to EBITDA ratio of about 2.0 suggests only moderate use of debt. And its commanding EBIT of 10.2 times its interest expense, implies the debt load is as light as a peacock feather. Importantly, Tibet GaoZheng Explosive grew its EBIT by 62% over the last twelve months, and that growth will make it easier 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 Tibet GaoZheng Explosive 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we always check how much of that EBIT is translated into free cash flow. During the last three years, Tibet GaoZheng Explosive 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

The good news is that Tibet GaoZheng Explosive's demonstrated ability to grow its EBIT delights us like a fluffy puppy does a toddler. But we must concede we find its conversion of EBIT to free cash flow has the opposite effect. All these things considered, it appears that Tibet GaoZheng Explosive can comfortably handle its current debt levels. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for Tibet GaoZheng Explosive 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.