Cabnet Holdings Berhad (KLSE:CABNET) Seems To Use Debt Rather Sparingly

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that '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. As with many other companies Cabnet Holdings Berhad (KLSE:CABNET) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Cabnet Holdings Berhad

How Much Debt Does Cabnet Holdings Berhad Carry?

As you can see below, at the end of June 2022, Cabnet Holdings Berhad had RM18.8m of debt, up from RM12.0m a year ago. Click the image for more detail. However, because it has a cash reserve of RM11.4m, its net debt is less, at about RM7.42m.

How Strong Is Cabnet Holdings Berhad's Balance Sheet?

According to the last reported balance sheet, Cabnet Holdings Berhad had liabilities of RM48.9m due within 12 months, and liabilities of RM10.3m due beyond 12 months. Offsetting these obligations, it had cash of RM11.4m as well as receivables valued at RM59.6m due within 12 months. So it actually has RM11.8m more liquid assets than total liabilities.

This surplus strongly suggests that Cabnet Holdings Berhad has a rock-solid balance sheet (and the debt is of no concern whatsoever). Having regard to this fact, we think its balance sheet is as strong as an ox.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Cabnet Holdings Berhad's net debt of 2.0 times EBITDA suggests graceful use of debt. And the alluring interest cover (EBIT of 7.2 times interest expense) certainly does not do anything to dispel this impression. We also note that Cabnet Holdings Berhad improved its EBIT from a last year's loss to a positive RM2.8m. There's no doubt that we learn most about debt from the balance sheet. But it is Cabnet 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Over the last year, Cabnet Holdings Berhad actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

Happily, Cabnet Holdings Berhad's impressive conversion of EBIT to free cash flow implies it has the upper hand on its debt. And the good news does not stop there, as its level of total liabilities also supports that impression! Looking at the bigger picture, we think Cabnet Holdings Berhad's use of debt seems quite reasonable and we're not concerned about it. While debt does bring risk, when used wisely it can also bring a higher return on equity. 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 example, we've discovered 3 warning signs for Cabnet Holdings Berhad (2 shouldn't be ignored!) that you should be aware of before investing here.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.