Is DaFa Properties Group (HKG:6111) Using Debt Sensibly?

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.' 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 note that DaFa Properties Group Limited (HKG:6111) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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, 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. 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 DaFa Properties Group

What Is DaFa Properties Group's Debt?

As you can see below, DaFa Properties Group had CN¥11.8b of debt, at June 2022, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has CN¥3.02b in cash leading to net debt of about CN¥8.80b.

How Healthy Is DaFa Properties Group's Balance Sheet?

We can see from the most recent balance sheet that DaFa Properties Group had liabilities of CN¥26.6b falling due within a year, and liabilities of CN¥4.65b due beyond that. Offsetting these obligations, it had cash of CN¥3.02b as well as receivables valued at CN¥4.14b due within 12 months. So it has liabilities totalling CN¥24.1b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the CN¥132.8m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, DaFa Properties Group would probably need a major re-capitalization if its creditors were to demand repayment. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if DaFa Properties Group can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Over 12 months, DaFa Properties Group made a loss at the EBIT level, and saw its revenue drop to CN¥1.1b, which is a fall of 90%. That makes us nervous, to say the least.

Caveat Emptor

While DaFa Properties Group's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable CN¥1.1b at the EBIT level. When you combine this with the very significant balance sheet liabilities mentioned above, we are so wary of it that we are basically at a loss for the right words. Like every long-shot we're sure it has a glossy presentation outlining its blue-sky potential. But the reality is that it is low on liquid assets relative to liabilities, and it lost CN¥1.9b in the last year. So we're not very excited about owning this stock. Its too risky for us. 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. We've identified 4 warning signs with DaFa Properties Group (at least 2 which make us uncomfortable) , and understanding them should be part of your investment process.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.