Lee Swee Kiat Group Berhad (KLSE:LEESK) Seems To Use Debt Quite Sensibly

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Lee Swee Kiat Group Berhad (KLSE:LEESK) does use debt in its business. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Lee Swee Kiat Group Berhad

What Is Lee Swee Kiat Group Berhad's Net Debt?

The image below, which you can click on for greater detail, shows that Lee Swee Kiat Group Berhad had debt of RM7.52m at the end of December 2020, a reduction from RM9.05m over a year. But it also has RM24.5m in cash to offset that, meaning it has RM17.0m net cash.

A Look At Lee Swee Kiat Group Berhad's Liabilities

We can see from the most recent balance sheet that Lee Swee Kiat Group Berhad had liabilities of RM27.5m falling due within a year, and liabilities of RM7.74m due beyond that. Offsetting this, it had RM24.5m in cash and RM11.0m in receivables that were due within 12 months. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.

This state of affairs indicates that Lee Swee Kiat Group Berhad's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the RM142.3m company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that Lee Swee Kiat Group Berhad has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that Lee Swee Kiat Group Berhad's load is not too heavy, because its EBIT was down 27% over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Lee Swee Kiat Group Berhad can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Lee Swee Kiat Group Berhad 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, Lee Swee Kiat Group Berhad recorded free cash flow worth a fulsome 93% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing up

While it is always sensible to investigate a company's debt, in this case Lee Swee Kiat Group Berhad has RM17.0m in net cash and a decent-looking balance sheet. The cherry on top was that in converted 93% of that EBIT to free cash flow, bringing in RM12m. So we don't have any problem with Lee Swee Kiat Group Berhad's use of debt. 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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Lee Swee Kiat Group Berhad you should know about.

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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