Tianjin Pharmaceutical Da Ren Tang Group (SHSE:600329) Could Easily Take On More Debt

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 can see that Tianjin Pharmaceutical Da Ren Tang Group Corporation Limited (SHSE:600329) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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.

See our latest analysis for Tianjin Pharmaceutical Da Ren Tang Group

What Is Tianjin Pharmaceutical Da Ren Tang Group's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Tianjin Pharmaceutical Da Ren Tang Group had CN¥1.28b of debt, an increase on CN¥772.5m, over one year. However, it does have CN¥1.50b in cash offsetting this, leading to net cash of CN¥216.9m.

How Healthy Is Tianjin Pharmaceutical Da Ren Tang Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Tianjin Pharmaceutical Da Ren Tang Group had liabilities of CN¥4.19b due within 12 months and liabilities of CN¥323.7m due beyond that. Offsetting this, it had CN¥1.50b in cash and CN¥2.91b in receivables that were due within 12 months. So its liabilities total CN¥108.9m more than the combination of its cash and short-term receivables.

This state of affairs indicates that Tianjin Pharmaceutical Da Ren Tang Group's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the CN¥21.2b company is short on cash, but still worth keeping an eye on the balance sheet. While it does have liabilities worth noting, Tianjin Pharmaceutical Da Ren Tang Group also has more cash than debt, so we're pretty confident it can manage its debt safely.

Tianjin Pharmaceutical Da Ren Tang Group's EBIT was pretty flat over the last year, but that shouldn't be an issue given the it doesn't have a lot of 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 Tianjin Pharmaceutical Da Ren Tang Group can strengthen its balance sheet over time. 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. Tianjin Pharmaceutical Da Ren Tang Group may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the most recent three years, Tianjin Pharmaceutical Da Ren Tang Group recorded free cash flow worth 78% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

We could understand if investors are concerned about Tianjin Pharmaceutical Da Ren Tang Group's liabilities, but we can be reassured by the fact it has has net cash of CN¥216.9m. And it impressed us with free cash flow of CN¥1.0b, being 78% of its EBIT. So we don't think Tianjin Pharmaceutical Da Ren Tang Group's use of debt is risky. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Tianjin Pharmaceutical Da Ren Tang Group you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.