Is City Developments (SGX:C09) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that City Developments Limited (SGX:C09) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is City Developments's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2024 City Developments had S$13.3b of debt, an increase on S$11.6b, over one year. However, it also had S$3.19b in cash, and so its net debt is S$10.1b.

How Healthy Is City Developments' Balance Sheet?

The latest balance sheet data shows that City Developments had liabilities of S$6.30b due within a year, and liabilities of S$9.99b falling due after that. On the other hand, it had cash of S$3.19b and S$1.66b worth of receivables due within a year. So it has liabilities totalling S$11.4b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the S$4.64b 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, City Developments would probably need a major re-capitalization if its creditors were to demand repayment.

Check out our latest analysis for City Developments

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

City Developments shareholders face the double whammy of a high net debt to EBITDA ratio (15.3), and fairly weak interest coverage, since EBIT is just 0.92 times the interest expense. The debt burden here is substantial. Even worse, City Developments saw its EBIT tank 37% over the last 12 months. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that debt. 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 City Developments 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, a company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, City Developments recorded free cash flow worth a fulsome 90% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Our View

On the face of it, City Developments's EBIT growth rate left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. After considering the datapoints discussed, we think City Developments has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that City Developments is showing 2 warning signs in our investment analysis , and 1 of those makes us a bit uncomfortable...

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.