We Think UMW Holdings Berhad (KLSE:UMW) Can Manage Its Debt With Ease

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We note that UMW Holdings Berhad (KLSE:UMW) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Our analysis indicates that UMW is potentially undervalued!

What Is UMW Holdings Berhad's Debt?

As you can see below, UMW Holdings Berhad had RM1.88b of debt at June 2022, down from RM2.25b a year prior. However, its balance sheet shows it holds RM2.98b in cash, so it actually has RM1.09b net cash.

How Strong Is UMW Holdings Berhad's Balance Sheet?

The latest balance sheet data shows that UMW Holdings Berhad had liabilities of RM2.70b due within a year, and liabilities of RM1.99b falling due after that. Offsetting these obligations, it had cash of RM2.98b as well as receivables valued at RM977.8m due within 12 months. So it has liabilities totalling RM731.2m more than its cash and near-term receivables, combined.

Of course, UMW Holdings Berhad has a market capitalization of RM3.87b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, UMW Holdings Berhad boasts net cash, so it's fair to say it does not have a heavy debt load!

On top of that, UMW Holdings Berhad grew its EBIT by 30% over the last twelve months, and that growth will make it easier to handle its debt. 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 UMW Holdings Berhad'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 company can only pay off debt with cold hard cash, not accounting profits. UMW 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. Happily for any shareholders, UMW Holdings Berhad 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.

Summing Up

Although UMW Holdings Berhad's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of RM1.09b. And it impressed us with free cash flow of RM763m, being 121% of its EBIT. So we don't think UMW Holdings Berhad's use of debt is risky. 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. Be aware that UMW Holdings Berhad is showing 1 warning sign in our investment analysis , you should know about...

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.