New City Development Group (HKG:456) Has Debt But No Earnings; Should You Worry?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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 New City Development Group Limited (HKG:456) does use debt in its business. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for New City Development Group

How Much Debt Does New City Development Group Carry?

The chart below, which you can click on for greater detail, shows that New City Development Group had HK$834.1m in debt in June 2022; about the same as the year before. However, it does have HK$46.5m in cash offsetting this, leading to net debt of about HK$787.6m.

A Look At New City Development Group's Liabilities

The latest balance sheet data shows that New City Development Group had liabilities of HK$134.0m due within a year, and liabilities of HK$1.41b falling due after that. Offsetting these obligations, it had cash of HK$46.5m as well as receivables valued at HK$134.1m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by HK$1.36b.

The deficiency here weighs heavily on the HK$122.9m 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 definitely think shareholders need to watch this one closely. After all, New City Development Group would likely require a major re-capitalisation if it had to pay its creditors today. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since New City Development Group 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.

Given it has no significant operating revenue at the moment, shareholders will be hoping New City Development Group can make progress and gain better traction for the business, before it runs low on cash.

Caveat Emptor

Over the last twelve months New City Development Group produced an earnings before interest and tax (EBIT) loss. Indeed, it lost a very considerable HK$50m at the EBIT level. Reflecting on this and the significant total liabilities, it's hard to know what to say about the stock because of our intense dis-affinity for it. Sure, the company might have a nice story about how they are going on to a brighter future. But the reality is that it is low on liquid assets relative to liabilities, and it lost HK$73m in the last year. So we think buying this stock is 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 3 warning signs for New City Development Group you should be aware of, and 2 of them make us uncomfortable.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.