Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We can see that Tatwah Smartech Co.,Ltd. (SZSE:002512) does use debt in its business. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

How Much Debt Does Tatwah SmartechLtd Carry?

As you can see below, Tatwah SmartechLtd had CN¥339.4m of debt at September 2024, down from CN¥731.5m a year prior. However, because it has a cash reserve of CN¥60.4m, its net debt is less, at about CN¥278.9m.

How Strong Is Tatwah SmartechLtd's Balance Sheet?

We can see from the most recent balance sheet that Tatwah SmartechLtd had liabilities of CN¥1.71b falling due within a year, and liabilities of CN¥470.9m due beyond that. Offsetting this, it had CN¥60.4m in cash and CN¥348.0m in receivables that were due within 12 months. So it has liabilities totalling CN¥1.78b more than its cash and near-term receivables, combined.

Tatwah SmartechLtd has a market capitalization of CN¥6.19b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Tatwah SmartechLtd will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Tatwah SmartechLtd had a loss before interest and tax, and actually shrunk its revenue by 5.8%, to CN¥1.9b. That's not what we would hope to see.

Caveat Emptor

Importantly, Tatwah SmartechLtd had an earnings before interest and tax (EBIT) loss over the last year. To be specific the EBIT loss came in at CN¥92m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled CN¥169m in negative free cash flow over the last twelve months. So suffice it to say we do consider the stock to be risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Tatwah SmartechLtd is showing 2 warning signs 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.

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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.