David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Shandong Hontron Aluminum Industry Holding Company Limited (SZSE:002379) 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 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Shandong Hontron Aluminum Industry Holding's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2024 Shandong Hontron Aluminum Industry Holding had debt of CN¥196.1m, up from CN¥148.0m in one year. But on the other hand it also has CN¥838.1m in cash, leading to a CN¥641.9m net cash position.

How Healthy Is Shandong Hontron Aluminum Industry Holding's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Shandong Hontron Aluminum Industry Holding had liabilities of CN¥1.24b due within 12 months and liabilities of CN¥118.9m due beyond that. Offsetting these obligations, it had cash of CN¥838.1m as well as receivables valued at CN¥666.6m due within 12 months. So it actually has CN¥144.5m more liquid assets than total liabilities.

Having regard to Shandong Hontron Aluminum Industry Holding'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¥8.42b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that Shandong Hontron Aluminum Industry Holding has more cash than debt is arguably a good indication that it can manage its debt safely. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Shandong Hontron Aluminum Industry Holding's earnings that will influence how the balance sheet holds up in the future. 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.

In the last year Shandong Hontron Aluminum Industry Holding wasn't profitable at an EBIT level, but managed to grow its revenue by 20%, to CN¥3.2b. With any luck the company will be able to grow its way to profitability.

So How Risky Is Shandong Hontron Aluminum Industry Holding?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And the fact is that over the last twelve months Shandong Hontron Aluminum Industry Holding lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of CN¥21m and booked a CN¥115m accounting loss. But the saving grace is the CN¥641.9m on the balance sheet. That kitty means the company can keep spending for growth for at least two years, at current rates. Shandong Hontron Aluminum Industry Holding's revenue growth shone bright over the last year, so it may well be in a position to turn a profit in due course. Pre-profit companies are often risky, but they can also offer great rewards. 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. Be aware that Shandong Hontron Aluminum Industry Holding is showing 1 warning sign in our investment analysis , 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.