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Here's Why Kaisa Group Holdings (HKG:1638) Is Weighed Down By Its Debt Load
The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We can see that Kaisa Group Holdings Ltd. (HKG:1638) does use debt in its business. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. 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 Kaisa Group Holdings
How Much Debt Does Kaisa Group Holdings Carry?
As you can see below, Kaisa Group Holdings had CN¥123.8b of debt at June 2021, down from CN¥133.5b a year prior. However, it also had CN¥46.5b in cash, and so its net debt is CN¥77.2b.
How Healthy Is Kaisa Group Holdings' Balance Sheet?
We can see from the most recent balance sheet that Kaisa Group Holdings had liabilities of CN¥134.2b falling due within a year, and liabilities of CN¥103.5b due beyond that. On the other hand, it had cash of CN¥46.5b and CN¥45.2b worth of receivables due within a year. So it has liabilities totalling CN¥145.9b more than its cash and near-term receivables, combined.
This deficit casts a shadow over the CN¥11.6b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Kaisa Group Holdings would likely require a major re-capitalisation if it had to pay its creditors today.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).
With a net debt to EBITDA ratio of 8.9, it's fair to say Kaisa Group Holdings does have a significant amount of debt. However, its interest coverage of 3.7 is reasonably strong, which is a good sign. Notably, Kaisa Group Holdings's EBIT was pretty flat over the last year, which isn't ideal given the debt load. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Kaisa Group Holdings can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Looking at the most recent three years, Kaisa Group Holdings recorded free cash flow of 20% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.
To be frank both Kaisa Group Holdings's net debt to EBITDA and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. Having said that, its ability to grow its EBIT isn't such a worry. Taking into account all the aforementioned factors, it looks like Kaisa Group Holdings has too much debt. That sort of riskiness is ok for some, but it certainly doesn't float our boat. 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. For example, we've discovered 4 warning signs for Kaisa Group Holdings (1 doesn't sit too well with us!) that you should be aware of before investing here.
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.
Valuation is complex, but we're helping make it simple.
Find out whether Kaisa Group Holdings is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.View the Free Analysis
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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Kaisa Group Holdings
Kaisa Group Holdings Ltd., an investment holding company, engages in the property investment, development, and management businesses in the People’s Republic of China.
Mediocre balance sheet and slightly overvalued.