China Tianrui Automotive Interiors (HKG:6162) Seems To Use Debt Quite Sensibly

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. Importantly, China Tianrui Automotive Interiors Co., LTD (HKG:6162) does carry debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. 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 step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for China Tianrui Automotive Interiors

What Is China Tianrui Automotive Interiors's Net Debt?

The image below, which you can click on for greater detail, shows that at December 2020 China Tianrui Automotive Interiors had debt of CN¥96.0m, up from CN¥78.1m in one year. But on the other hand it also has CN¥97.5m in cash, leading to a CN¥1.47m net cash position.

How Healthy Is China Tianrui Automotive Interiors' Balance Sheet?

We can see from the most recent balance sheet that China Tianrui Automotive Interiors had liabilities of CN¥345.3m falling due within a year, and liabilities of CN¥10.5m due beyond that. Offsetting these obligations, it had cash of CN¥97.5m as well as receivables valued at CN¥255.0m due within 12 months. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.

Having regard to China Tianrui Automotive Interiors' size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the CN¥266.5m company is struggling for cash, we still think it's worth monitoring its balance sheet. Despite its noteworthy liabilities, China Tianrui Automotive Interiors boasts net cash, so it's fair to say it does not have a heavy debt load!

Another good sign is that China Tianrui Automotive Interiors has been able to increase its EBIT by 27% in twelve months, making it easier to pay down debt. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since China Tianrui Automotive Interiors will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While China Tianrui Automotive Interiors has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, China Tianrui Automotive Interiors saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing up

We could understand if investors are concerned about China Tianrui Automotive Interiors's liabilities, but we can be reassured by the fact it has has net cash of CN¥1.47m. And it impressed us with its EBIT growth of 27% over the last year. So we are not troubled with China Tianrui Automotive Interiors's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 2 warning signs for China Tianrui Automotive Interiors you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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