Melati Ehsan Holdings Berhad (KLSE:MELATI) Has A Somewhat Strained Balance Sheet

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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 Melati Ehsan Holdings Berhad (KLSE:MELATI) does use debt in its business. But the more important question is: how much risk is that debt creating?

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What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

How Much Debt Does Melati Ehsan Holdings Berhad Carry?

The image below, which you can click on for greater detail, shows that Melati Ehsan Holdings Berhad had debt of RM56.0m at the end of August 2025, a reduction from RM74.5m over a year. On the flip side, it has RM10.6m in cash leading to net debt of about RM45.4m.

How Healthy Is Melati Ehsan Holdings Berhad's Balance Sheet?

The latest balance sheet data shows that Melati Ehsan Holdings Berhad had liabilities of RM208.8m due within a year, and liabilities of RM30.5m falling due after that. On the other hand, it had cash of RM10.6m and RM188.3m worth of receivables due within a year. So its liabilities total RM40.4m more than the combination of its cash and short-term receivables.

This is a mountain of leverage relative to its market capitalization of RM63.6m. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

See our latest analysis for Melati Ehsan Holdings Berhad

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Melati Ehsan Holdings Berhad shareholders face the double whammy of a high net debt to EBITDA ratio (18.6), and fairly weak interest coverage, since EBIT is just 1.0 times the interest expense. This means we'd consider it to have a heavy debt load. Worse, Melati Ehsan Holdings Berhad's EBIT was down 59% over the last year. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is Melati Ehsan Holdings Berhad's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of that EBIT is backed by free cash flow. Looking at the most recent three years, Melati Ehsan Holdings Berhad recorded free cash flow of 28% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

To be frank both Melati Ehsan Holdings Berhad's interest cover and its track record of (not) growing its EBIT make us rather uncomfortable with its debt levels. And furthermore, its level of total liabilities also fails to instill confidence. We're quite clear that we consider Melati Ehsan Holdings Berhad to be really rather risky, as a result of its balance sheet health. For this reason we're pretty cautious about the stock, and we think shareholders should keep a close eye on its liquidity. 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. For instance, we've identified 3 warning signs for Melati Ehsan Holdings Berhad (1 is potentially serious) 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. 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.