Here's Why Chin Well Holdings Berhad (KLSE:CHINWEL) Can Manage Its Debt Responsibly

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. Importantly, Chin Well Holdings Berhad (KLSE:CHINWEL) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Chin Well Holdings Berhad

What Is Chin Well Holdings Berhad's Debt?

You can click the graphic below for the historical numbers, but it shows that Chin Well Holdings Berhad had RM31.1m of debt in December 2020, down from RM96.9m, one year before. But it also has RM90.6m in cash to offset that, meaning it has RM59.4m net cash.

How Strong Is Chin Well Holdings Berhad's Balance Sheet?

The latest balance sheet data shows that Chin Well Holdings Berhad had liabilities of RM65.3m due within a year, and liabilities of RM10.2m falling due after that. Offsetting these obligations, it had cash of RM90.6m as well as receivables valued at RM112.7m due within 12 months. So it can boast RM127.8m more liquid assets than total liabilities.

This excess liquidity is a great indication that Chin Well Holdings Berhad's balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. Simply put, the fact that Chin Well Holdings Berhad has more cash than debt is arguably a good indication that it can manage its debt safely.

The modesty of its debt load may become crucial for Chin Well Holdings Berhad if management cannot prevent a repeat of the 91% 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 you can't view debt in total isolation; since Chin Well Holdings Berhad will need earnings to service that debt. 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Chin Well Holdings Berhad 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. In the last three years, Chin Well Holdings Berhad's free cash flow amounted to 43% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Chin Well Holdings Berhad has net cash of RM59.4m, as well as more liquid assets than liabilities. So we don't have any problem with Chin Well Holdings Berhad's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for Chin Well Holdings Berhad (of which 1 is significant!) 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.

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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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