These 4 Measures Indicate That Nextgreen Global Berhad (KLSE:NGGB) Is Using Debt Extensively

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Nextgreen Global Berhad (KLSE:NGGB) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Nextgreen Global Berhad

How Much Debt Does Nextgreen Global Berhad Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2021 Nextgreen Global Berhad had RM12.9m of debt, an increase on RM12.2m, over one year. However, because it has a cash reserve of RM5.83m, its net debt is less, at about RM7.04m.

How Healthy Is Nextgreen Global Berhad's Balance Sheet?

We can see from the most recent balance sheet that Nextgreen Global Berhad had liabilities of RM27.5m falling due within a year, and liabilities of RM7.83m due beyond that. Offsetting these obligations, it had cash of RM5.83m as well as receivables valued at RM51.6m due within 12 months. So it actually has RM22.1m more liquid assets than total liabilities.

This short term liquidity is a sign that Nextgreen Global Berhad could probably pay off its debt with ease, as its balance sheet is far from stretched. But either way, Nextgreen Global Berhad has virtually no net debt, so it's fair to say it does not have a heavy debt load!

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.

Looking at its net debt to EBITDA of 1.2 and interest cover of 3.1 times, it seems to us that Nextgreen Global Berhad is probably using debt in a pretty reasonable way. So we'd recommend keeping a close eye on the impact financing costs are having on the business. We also note that Nextgreen Global Berhad improved its EBIT from a last year's loss to a positive RM3.1m. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Nextgreen Global 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, Nextgreen Global Berhad saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

Nextgreen Global Berhad's struggle to convert EBIT to free cash flow had us second guessing its balance sheet strength, but the other data-points we considered were relatively redeeming. But on the bright side, its ability to handle its debt, based on its EBITDA, isn't too shabby at all. Looking at all the angles mentioned above, it does seem to us that Nextgreen Global Berhad is a somewhat risky investment as a result of its debt. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Be aware that Nextgreen Global Berhad is showing 2 warning signs in our investment analysis , you should know about...

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. 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.