Is China New City Commercial Development (HKG:1321) Using Too Much Debt?

Warren Buffett famously said, '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 can see that China New City Commercial Development Limited (HKG:1321) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for China New City Commercial Development

What Is China New City Commercial Development's Net Debt?

The image below, which you can click on for greater detail, shows that China New City Commercial Development had debt of CN¥4.34b at the end of June 2023, a reduction from CN¥5.13b over a year. However, it does have CN¥319.5m in cash offsetting this, leading to net debt of about CN¥4.02b.

How Healthy Is China New City Commercial Development's Balance Sheet?

According to the last reported balance sheet, China New City Commercial Development had liabilities of CN¥5.57b due within 12 months, and liabilities of CN¥3.73b due beyond 12 months. On the other hand, it had cash of CN¥319.5m and CN¥45.9m worth of receivables due within a year. So it has liabilities totalling CN¥8.93b more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the CN¥1.59b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, China New City Commercial Development would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But it is China New City Commercial Development'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.

Over 12 months, China New City Commercial Development reported revenue of CN¥1.2b, which is a gain of 98%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.

Caveat Emptor

While we can certainly appreciate China New City Commercial Development's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Indeed, it lost CN¥84m at the EBIT level. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. Of course, it may be able to improve its situation with a bit of luck and good execution. But we think that is unlikely, given it is low on liquid assets, and burned through CN¥333m in the last year. So we consider this a high risk stock and we wouldn't be at all surprised if the company asks shareholders for money before long. 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. Be aware that China New City Commercial Development is showing 2 warning signs in our investment analysis , you should know about...

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.