David Iben put it well when he said: âVolatility is not a risk we care about. What matters to us is to avoid the permanent loss of capital. ‘ It is only natural to consider a company’s balance sheet when looking at its level of risk, as debt is often involved when a business collapses. Above all, Sunac China Holdings Limited (HKG: 1918) carries a debt. But the real question is whether this debt makes the business risky.
What risk does debt entail?
Debts and other liabilities become risky for a business when it cannot easily meet these obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that he must raise new equity at low cost, thereby diluting shareholders over the long term. That said, the most common situation is where a business manages its debt reasonably well – and to its own advantage. The first step in examining a company’s debt levels is to consider its cash flow and debt together.
Check out our latest analysis for Sunac China Holdings
What is the debt of Sunac China Holdings?
The image below, which you can click for more details, shows that Sunac China Holdings had CN 303.5 billion in debt at the end of June 2021, a reduction from CN 320.3 billion on a year. On the other hand, he has CN 103.8 billion in cash, resulting in a net debt of approximately CN 199.8 billion.
How healthy is Sunac China Holdings’ balance sheet?
Zooming in on the latest balance sheet data, we can see that Sunac China Holdings had CN 755.0 billion liabilities due within 12 months and CN 242.2 billion liabilities beyond. On the other hand, he had CN 103.8 billion in cash and CN 102.7 billion in receivables due within one year. Its liabilities are therefore CN 790.6 billion more than the combination of its cash and short-term receivables.
The deficiency here weighs heavily on the CN Â¥ 55.4b company itself, as if a child struggles under the weight of a huge backpack full of books, his sports equipment, and a trumpet. So we would be watching its record closely, without a doubt. After all, Sunac China Holdings would likely need a major recapitalization if it were to pay its creditors today.
We measure a company’s debt load relative to its earning capacity by looking at its net debt divided by its earnings before interest, taxes, depreciation, and amortization (EBITDA) and calculating how easily its earnings before interest and taxes (EBIT) covers its interest 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).
As it turns out, Sunac China Holdings has a rather worrying net debt to EBITDA ratio of 5.6 but very strong interest coverage of 1k. This means that unless the business has access to very cheap debt, these interest charges will likely increase in the future. Note that Sunac China Holdings’ EBIT soared like bamboo after the rain, gaining 31% over the past twelve months. This will make it easier to manage your debt. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future earnings, more than anything, that will determine Sunac China Holdings’ ability to maintain a healthy balance sheet going forward. So, if you want to see what the professionals think, you might find this free analyst earnings forecast report interesting.
But our last consideration is also important, because a business cannot pay its debts with paper profits; he needs hard cash. We therefore always check how much of this EBIT is converted into free cash flow. Over the past three years, Sunac China Holdings has generated free cash flow of a very solid 91% of its EBIT, more than we expected. This positions it well to repay debt if it is desirable.
Our point of view
We were not impressed with Sunac China Holdings’ net debt versus EBITDA, and its level of total liabilities made us cautious. But his interest coverage redeemed considerably. Looking at all of this data, we feel a little cautious about Sunac China Holdings’ debt levels. While debt has its advantage in terms of potential higher returns, we think shareholders should definitely consider how leverage levels might make the stock riskier. When analyzing debt levels, the balance sheet is the obvious starting point. However, not all investment risks lie on the balance sheet – far from it. To do this, you need to know the 3 warning signs we spotted with Sunac China Holdings.
At the end of the day, it’s often best to focus on businesses with no net debt. You can access our special list of these companies (all with a history of profit growth). It’s free.
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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 shares 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 documents. Simply Wall St has no position in the mentioned stocks.
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