Is XD (HKG:2400) Using Debt In A Risky Way?

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. We note that XD Inc. (HKG:2400) does have debt on its balance sheet. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for XD

What Is XD's Debt?

As you can see below, at the end of June 2021, XD had CN¥1.69b of debt, up from none a year ago. Click the image for more detail. But on the other hand it also has CN¥4.37b in cash, leading to a CN¥2.67b net cash position.

How Healthy Is XD's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that XD had liabilities of CN¥733.9m due within 12 months and liabilities of CN¥1.76b due beyond that. Offsetting these obligations, it had cash of CN¥4.37b as well as receivables valued at CN¥288.8m due within 12 months. So it can boast CN¥2.17b more liquid assets than total liabilities.

This surplus suggests that XD has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, XD boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine XD'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.

Over 12 months, XD made a loss at the EBIT level, and saw its revenue drop to CN¥2.8b, which is a fall of 6.2%. That's not what we would hope to see.

So How Risky Is XD?

Although XD had an earnings before interest and tax (EBIT) loss over the last twelve months, it generated positive free cash flow of CN¥236m. So although it is loss-making, it doesn't seem to have too much near-term balance sheet risk, keeping in mind the net cash. With mediocre revenue growth in the last year, we're don't find the investment opportunity particularly compelling. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 3 warning signs for XD that you should be aware of before investing here.

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.
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