Is Sarawak Cable Berhad (KLSE:SCABLE) Using Debt In A Risky Way?

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. As with many other companies Sarawak Cable Berhad (KLSE:SCABLE) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Sarawak Cable Berhad

How Much Debt Does Sarawak Cable Berhad Carry?

The image below, which you can click on for greater detail, shows that Sarawak Cable Berhad had debt of RM516.3m at the end of June 2020, a reduction from RM606.9m over a year. On the flip side, it has RM45.7m in cash leading to net debt of about RM470.6m.

How Healthy Is Sarawak Cable Berhad's Balance Sheet?

According to the last reported balance sheet, Sarawak Cable Berhad had liabilities of RM653.8m due within 12 months, and liabilities of RM108.0m due beyond 12 months. Offsetting these obligations, it had cash of RM45.7m as well as receivables valued at RM281.5m due within 12 months. So its liabilities total RM434.5m more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the RM76.1m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, Sarawak Cable Berhad would probably need a major re-capitalization if its creditors were to demand repayment. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Sarawak Cable Berhad 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, Sarawak Cable Berhad made a loss at the EBIT level, and saw its revenue drop to RM668m, which is a fall of 22%. To be frank that doesn't bode well.

Caveat Emptor

Not only did Sarawak Cable Berhad's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping RM34m. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. That said, it is possible that the company will turn its fortunes around. But we think that is unlikely since it is low on liquid assets, and made a loss of RM95m in the last year. So we think this stock is quite risky. We'd prefer to pass. 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. For example, we've discovered 2 warning signs for Sarawak Cable Berhad (1 shouldn't be ignored!) that you should be aware of before investing here.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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