Is Coastal Contracts Bhd (KLSE:COASTAL) Weighed On By Its Debt Load?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Coastal Contracts Bhd (KLSE:COASTAL) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Coastal Contracts Bhd

What Is Coastal Contracts Bhd's Net Debt?

The image below, which you can click on for greater detail, shows that Coastal Contracts Bhd had debt of RM120.5m at the end of September 2020, a reduction from RM281.1m over a year. However, it does have RM316.9m in cash offsetting this, leading to net cash of RM196.5m.

How Strong Is Coastal Contracts Bhd's Balance Sheet?

The latest balance sheet data shows that Coastal Contracts Bhd had liabilities of RM222.9m due within a year, and liabilities of RM80.0m falling due after that. On the other hand, it had cash of RM316.9m and RM165.8m worth of receivables due within a year. So it actually has RM179.9m more liquid assets than total liabilities.

This surplus strongly suggests that Coastal Contracts Bhd has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Coastal Contracts Bhd has more cash than debt is arguably a good indication that it can manage its debt safely. 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 Coastal Contracts Bhd will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Coastal Contracts Bhd reported revenue of RM188m, which is a gain of 4.0%, although it did not report any earnings before interest and tax. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

So How Risky Is Coastal Contracts Bhd?

We have no doubt that loss making companies are, in general, riskier than profitable ones. And we do note that Coastal Contracts Bhd had an earnings before interest and tax (EBIT) loss, over the last year. And over the same period it saw negative free cash outflow of RM62m and booked a RM137m accounting loss. With only RM196.5m on the balance sheet, it would appear that its going to need to raise capital again soon. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with Coastal Contracts Bhd (at least 1 which doesn't sit too well with us) , and understanding them should be part of your investment process.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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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