KE Holdings (NYSE:BEKE) Seems To Use Debt Quite Sensibly

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. As with many other companies KE Holdings Inc. (NYSE:BEKE) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for KE Holdings

What Is KE Holdings's Net Debt?

The image below, which you can click on for greater detail, shows that KE Holdings had debt of CN¥408.4m at the end of March 2024, a reduction from CN¥504.4m over a year. However, its balance sheet shows it holds CN¥53.9b in cash, so it actually has CN¥53.5b net cash.

How Strong Is KE Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that KE Holdings had liabilities of CN¥41.8b due within 12 months and liabilities of CN¥8.14b due beyond that. Offsetting this, it had CN¥53.9b in cash and CN¥4.74b in receivables that were due within 12 months. So it actually has CN¥8.72b more liquid assets than total liabilities.

This surplus suggests that KE Holdings has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, KE Holdings boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for KE Holdings if management cannot prevent a repeat of the 40% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine KE Holdings's ability to maintain a healthy balance sheet going forward. 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. While KE Holdings has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, KE Holdings actually produced more free cash flow than EBIT over the last two years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that KE Holdings has net cash of CN¥53.5b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CN¥1.7b, being 315% of its EBIT. So we are not troubled with KE Holdings's debt use. 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 - KE Holdings has 3 warning signs we think you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.