These 4 Measures Indicate That Kangda International Environmental (HKG:6136) Is Using Debt Extensively

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 note that Kangda International Environmental Company Limited (HKG:6136) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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What Risk Does Debt Bring?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

What Is Kangda International Environmental's Debt?

As you can see below, Kangda International Environmental had CN¥9.61b of debt, at December 2024, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has CN¥521.2m in cash leading to net debt of about CN¥9.09b.

A Look At Kangda International Environmental's Liabilities

According to the last reported balance sheet, Kangda International Environmental had liabilities of CN¥5.30b due within 12 months, and liabilities of CN¥7.83b due beyond 12 months. Offsetting these obligations, it had cash of CN¥521.2m as well as receivables valued at CN¥5.26b due within 12 months. So its liabilities total CN¥7.35b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the CN¥657.4m company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Kangda International Environmental would likely require a major re-capitalisation if it had to pay its creditors today.

Check out our latest analysis for Kangda International Environmental

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Kangda International Environmental shareholders face the double whammy of a high net debt to EBITDA ratio (10.8), and fairly weak interest coverage, since EBIT is just 1.4 times the interest expense. The debt burden here is substantial. More concerning, Kangda International Environmental saw its EBIT drop by 4.8% in the last twelve months. If that earnings trend continues the company will face an uphill battle to pay off its debt. There's no doubt that we learn most about debt from the balance sheet. But it is Kangda International Environmental'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. In the last three years, Kangda International Environmental's free cash flow amounted to 36% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

To be frank both Kangda International Environmental'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 convert EBIT to free cash flow isn't such a worry. We should also note that Water Utilities industry companies like Kangda International Environmental commonly do use debt without problems. After considering the datapoints discussed, we think Kangda International Environmental has too much debt. That sort of riskiness is ok for some, but it certainly doesn't float our boat. 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. For instance, we've identified 3 warning signs for Kangda International Environmental (2 are a bit unpleasant) you should be aware of.

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.