Sweeten Real Estate DevelopmentLtd (TWSE:5525) Seems To Use Debt Quite Sensibly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. Importantly, Sweeten Real Estate Development Co.,Ltd. (TWSE:5525) does carry debt. But the more important question is: how much risk is that debt creating?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Sweeten Real Estate DevelopmentLtd

How Much Debt Does Sweeten Real Estate DevelopmentLtd Carry?

As you can see below, Sweeten Real Estate DevelopmentLtd had NT$8.54b of debt at June 2024, down from NT$8.97b a year prior. And it doesn't have much cash, so its net debt is about the same.

How Healthy Is Sweeten Real Estate DevelopmentLtd's Balance Sheet?

The latest balance sheet data shows that Sweeten Real Estate DevelopmentLtd had liabilities of NT$11.5b due within a year, and liabilities of NT$1.45b falling due after that. Offsetting this, it had NT$160.8m in cash and NT$592.7m in receivables that were due within 12 months. So it has liabilities totalling NT$12.2b more than its cash and near-term receivables, combined.

When you consider that this deficiency exceeds the company's NT$9.76b market capitalization, you might well be inclined to review the balance sheet intently. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

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).

Strangely Sweeten Real Estate DevelopmentLtd has a sky high EBITDA ratio of 7.0, implying high debt, but a strong interest coverage of 45.4. So either it has access to very cheap long term debt or that interest expense is going to grow! Notably, Sweeten Real Estate DevelopmentLtd's EBIT launched higher than Elon Musk, gaining a whopping 524% on last year. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Sweeten Real Estate DevelopmentLtd's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of that EBIT is backed by free cash flow. Happily for any shareholders, Sweeten Real Estate DevelopmentLtd actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Sweeten Real Estate DevelopmentLtd's net debt to EBITDA was a real negative on this analysis, although the other factors we considered were considerably better. In particular, we are dazzled with its interest cover. Considering this range of data points, we think Sweeten Real Estate DevelopmentLtd is in a good position to manage its debt levels. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. 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. For example Sweeten Real Estate DevelopmentLtd has 2 warning signs (and 1 which shouldn't be ignored) we think you should know about.

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.