Health Check: How Prudently Does Tianma Microelectronics (SZSE:000050) Use Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Tianma Microelectronics Co., Ltd. (SZSE:000050) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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.

View our latest analysis for Tianma Microelectronics

What Is Tianma Microelectronics's Debt?

As you can see below, Tianma Microelectronics had CN¥38.5b of debt, at March 2024, which is about the same as the year before. You can click the chart for greater detail. However, it does have CN¥9.22b in cash offsetting this, leading to net debt of about CN¥29.3b.

How Strong Is Tianma Microelectronics' Balance Sheet?

According to the last reported balance sheet, Tianma Microelectronics had liabilities of CN¥21.8b due within 12 months, and liabilities of CN¥31.5b due beyond 12 months. Offsetting these obligations, it had cash of CN¥9.22b as well as receivables valued at CN¥8.11b due within 12 months. So its liabilities total CN¥36.0b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the CN¥18.4b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Tianma Microelectronics would probably need a major re-capitalization if its creditors were to demand repayment. 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 Tianma Microelectronics's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

In the last year Tianma Microelectronics wasn't profitable at an EBIT level, but managed to grow its revenue by 6.0%, to CN¥32b. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

Caveat Emptor

Importantly, Tianma Microelectronics had an earnings before interest and tax (EBIT) loss over the last year. Its EBIT loss was a whopping CN¥2.4b. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. It's fair to say the loss of CN¥1.7b didn't encourage us either; we'd like to see a profit. And until that time we think this is a risky stock. 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. We've identified 1 warning sign with Tianma Microelectronics , and understanding them should be part of your investment process.

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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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.