These 4 metrics indicate that Kowloon Development (HKG: 34) is using debt a lot

David Iben put it well when he said, “Volatility is not a risk we care about. What matters to us is to avoid the permanent loss of capital. ‘ So it seems like smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess the level of risk of a business. We notice that Kowloon Development Corporation Limited (HKG: 34) has debt on its balance sheet. But does this debt worry shareholders?

What risk does debt entail?

Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, then it exists at their mercy. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still costly) event is when a company has to issue stock at bargain prices, constantly diluting shareholders, just to strengthen its balance sheet. That said, the most common situation is where a business manages its debt reasonably well – and to its own advantage. When we think of a business’s use of debt, we first look at cash flow and debt together.

Check out our latest analysis for Kowloon Development

How much debt does the development of Kowloon carry?

You can click on the graph below for historical figures, but it shows that as of June 2021, Kowloon Development had a debt of HK $ 15.9 billion, an increase from HK $ 13.8 billion. , over one year. However, because he has a cash reserve of HK $ 2.53 billion, his net debt is less, at around HK $ 13.4 billion.

SEHK: 34 History of debt to equity December 21, 2021

A look at the liabilities of Kowloon Development

Zooming in on the latest balance sheet data, we can see that Kowloon Development had a liability of HK $ 9.05 billion owed within 12 months and a liability of HK $ 10.5 billion owed beyond that. On the other hand, he had HK $ 2.53 billion in cash and HK $ 1.03 billion in receivables due within one year. It therefore has liabilities totaling HK $ 16.0 billion more than its cash and short-term receivables combined.

Since this deficit is actually greater than the company’s market cap of HK $ 11.6 billion, we believe shareholders should really watch Kowloon Development’s debt levels, like a parent watching their child. riding a bike for the first time. Hypothetically, extremely high dilution would be required if the company were forced to repay its debts by raising capital at the current share price.

We measure a company’s indebtedness relative to its earning power by looking at its net debt divided by its earnings before interest, taxes, depreciation, and amortization (EBITDA) and calculating the ease with which its earnings before interest and taxes (EBIT ) covers its interests. costs (interest coverage). The advantage of this approach is that we take into account both the absolute amount of debt (with net debt versus EBITDA) and the actual interest charges associated with this debt (with its coverage rate). interests).

Oddly enough, Kowloon Development has a very high EBITDA ratio of 15.1 which implies high debt but high interest coverage of 14.6. This means that unless the business has access to very cheap debt, these interest charges will likely increase in the future. It is important to note that Kowloon Development’s EBIT has fallen 63% over the past twelve months. If this profit trend continues, paying off debt will be about as easy as driving cats on a roller coaster. The balance sheet is clearly the area to focus on when analyzing debt. But you can’t look at debt in isolation; since Kowloon Development will need revenue to repay this debt. So, when considering debt, it is really worth looking at the profit trend. Click here for an interactive snapshot.

Finally, a business can only pay off its debts with hard cash, not with book profits. The logical step is therefore to examine the proportion of this EBIT that corresponds to the actual free cash flow. Over the past three years, Kowloon Development has generated free cash flow of 91% of its EBIT, more than we expected. This positions it well to repay debt if it is desirable.

Our point of view

At first glance, Kowloon Development’s net debt to EBITDA left us hesitant about the stock, and its EBIT growth rate was no more appealing than the single empty restaurant on the busiest night in. the year. But on the bright side, his interest coverage is a good sign and makes us more optimistic. Overall, we think it’s fair to say that Kowloon Development has enough debt that there is real risk around the balance sheet. If all goes well, this should increase returns, but on the other hand, the risk of permanent capital loss is increased by debt. The balance sheet is clearly the area to focus on when analyzing debt. But at the end of the day, every business can contain risks that exist off the balance sheet. For example, Kowloon Development has 3 warning signs (and 2 which are a bit disturbing) we think you should know about.

At the end of the day, sometimes it’s easier to focus on businesses that don’t even need to go into debt. Readers can access a list of growth stocks with zero net debt 100% free, at present.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only 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 into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative material. Simply Wall St has no position in any of the stocks mentioned.

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John A. Bogar