Is Kidztech Holdings (HKG:6918) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Kidztech Holdings Limited (HKG:6918) 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 assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Kidztech Holdings

What Is Kidztech Holdings's Net Debt?

As you can see below, Kidztech Holdings had CN¥153.8m of debt, at June 2022, which is about the same as the year before. You can click the chart for greater detail. However, it does have CN¥87.7m in cash offsetting this, leading to net debt of about CN¥66.1m.

How Strong Is Kidztech Holdings' Balance Sheet?

According to the last reported balance sheet, Kidztech Holdings had liabilities of CN¥423.2m due within 12 months, and liabilities of CN¥9.79m due beyond 12 months. Offsetting these obligations, it had cash of CN¥87.7m as well as receivables valued at CN¥183.9m due within 12 months. So its liabilities total CN¥161.4m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Kidztech Holdings has a market capitalization of CN¥423.1m, and so it could probably strengthen its balance sheet by raising capital if it needed to. 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 it is Kidztech Holdings's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Kidztech Holdings had a loss before interest and tax, and actually shrunk its revenue by 7.7%, to CN¥272m. We would much prefer see growth.

Caveat Emptor

Importantly, Kidztech Holdings had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost CN¥20m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled CN¥24m in negative free cash flow over the last twelve months. So in short it's a really risky stock. 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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Kidztech Holdings (of which 2 don't sit too well with us!) you should know about.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.