Is Oriental Holdings Berhad (KLSE:ORIENT) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Oriental Holdings Berhad (KLSE:ORIENT) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Oriental Holdings Berhad

What Is Oriental Holdings Berhad's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Oriental Holdings Berhad had RM2.20b of debt, an increase on RM2.06b, over one year. But it also has RM4.66b in cash to offset that, meaning it has RM2.45b net cash.

How Strong Is Oriental Holdings Berhad's Balance Sheet?

The latest balance sheet data shows that Oriental Holdings Berhad had liabilities of RM2.49b due within a year, and liabilities of RM252.6m falling due after that. Offsetting these obligations, it had cash of RM4.66b as well as receivables valued at RM367.2m due within 12 months. So it actually has RM2.28b more liquid assets than total liabilities.

This surplus liquidity suggests that Oriental Holdings Berhad's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. Having regard to this fact, we think its balance sheet is as strong as an ox. Simply put, the fact that Oriental Holdings Berhad has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that Oriental Holdings Berhad's load is not too heavy, because its EBIT was down 62% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But it is Oriental Holdings Berhad'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Oriental Holdings Berhad may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Oriental Holdings Berhad recorded free cash flow worth a fulsome 93% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing up

While it is always sensible to investigate a company's debt, in this case Oriental Holdings Berhad has RM2.45b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of RM266m, being 93% of its EBIT. So is Oriental Holdings Berhad's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - Oriental Holdings Berhad has 3 warning signs we think you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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This article by Simply Wall St is general in nature. 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.
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