Here's Why Kobay Technology Bhd (KLSE:KOBAY) Can Manage Its Debt Responsibly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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 can see that Kobay Technology Bhd. (KLSE:KOBAY) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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.

Check out our latest analysis for Kobay Technology Bhd

What Is Kobay Technology Bhd's Net Debt?

The image below, which you can click on for greater detail, shows that at March 2022 Kobay Technology Bhd had debt of RM46.1m, up from RM42.6m in one year. But on the other hand it also has RM63.2m in cash, leading to a RM17.1m net cash position.

How Strong Is Kobay Technology Bhd's Balance Sheet?

We can see from the most recent balance sheet that Kobay Technology Bhd had liabilities of RM129.9m falling due within a year, and liabilities of RM33.4m due beyond that. Offsetting these obligations, it had cash of RM63.2m as well as receivables valued at RM134.3m due within 12 months. So it actually has RM34.1m more liquid assets than total liabilities.

This surplus suggests that Kobay Technology Bhd has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Kobay Technology Bhd has more cash than debt is arguably a good indication that it can manage its debt safely.

Better yet, Kobay Technology Bhd grew its EBIT by 128% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. 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 Kobay Technology Bhd'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. While Kobay Technology Bhd 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. Over the last three years, Kobay Technology Bhd saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Kobay Technology Bhd has net cash of RM17.1m, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 128% over the last year. So we are not troubled with Kobay Technology Bhd's debt use. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example Kobay Technology Bhd has 3 warning signs (and 1 which is significant) we think 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. 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.