China New City Commercial Development (HKG:1321) Has Debt But No Earnings; Should You Worry?

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.' 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. As with many other companies China New City Commercial Development Limited (HKG:1321) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for China New City Commercial Development

How Much Debt Does China New City Commercial Development Carry?

As you can see below, China New City Commercial Development had CN¥5.45b of debt, at December 2021, which is about the same as the year before. You can click the chart for greater detail. However, it also had CN¥1.60b in cash, and so its net debt is CN¥3.85b.

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

We can see from the most recent balance sheet that China New City Commercial Development had liabilities of CN¥5.66b falling due within a year, and liabilities of CN¥4.11b due beyond that. Offsetting these obligations, it had cash of CN¥1.60b as well as receivables valued at CN¥626.3m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CN¥7.54b.

This deficit casts a shadow over the CN¥1.72b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, China New City Commercial Development would probably need a major re-capitalization if its creditors were to demand repayment. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since China New City Commercial Development 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.

Over 12 months, China New City Commercial Development reported revenue of CN¥871m, which is a gain of 24%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.

Caveat Emptor

Even though China New City Commercial Development managed to grow its top line quite deftly, the cold hard truth is that it is losing money on the EBIT line. Its EBIT loss was a whopping CN¥216m. 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. Nevertheless, we would not bet on it given that it lost CN¥295m in just last twelve months, and it doesn't have much by way of liquid assets. So while it's not wise to assume the company will fail, we do think it's risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for China New City Commercial Development you should be aware of.

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.