Here's Why Focus Dynamics Group Berhad (KLSE:FOCUS) Has A Meaningful Debt Burden

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Focus Dynamics Group Berhad (KLSE:FOCUS) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Focus Dynamics Group Berhad

What Is Focus Dynamics Group Berhad's Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2024 Focus Dynamics Group Berhad had RM11.2m of debt, an increase on RM6.21m, over one year. However, it does have RM11.0m in cash offsetting this, leading to net debt of about RM240.0k.

How Strong Is Focus Dynamics Group Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Focus Dynamics Group Berhad had liabilities of RM53.4m due within 12 months and liabilities of RM40.6m due beyond that. On the other hand, it had cash of RM11.0m and RM19.8m worth of receivables due within a year. So its liabilities total RM63.1m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Focus Dynamics Group Berhad has a market capitalization of RM159.3m, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. Carrying virtually no net debt, Focus Dynamics Group Berhad has a very light debt load indeed.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Focus Dynamics Group Berhad has a net debt to EBITDA ratio of -0.14, suggesting a very conservative balance sheet. But EBIT was only 0.11 times the interest expense last year, which shows that the debt has negatively impacted the business, by constraining its options (and restricting its free cash flow). We also note that Focus Dynamics Group Berhad improved its EBIT from a last year's loss to a positive RM537k. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Focus Dynamics Group Berhad will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Considering the last year, Focus Dynamics Group Berhad actually recorded a cash outflow, overall. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Our View

Neither Focus Dynamics Group Berhad's ability to cover its interest expense with its EBIT nor its conversion of EBIT to free cash flow gave us confidence in its ability to take on more debt. But its net debt to EBITDA tells a very different story, and suggests some resilience. When we consider all the factors discussed, it seems to us that Focus Dynamics Group Berhad is taking some risks with its use of debt. While that debt can boost returns, we think the company has enough leverage now. 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. To that end, you should learn about the 3 warning signs we've spotted with Focus Dynamics Group Berhad (including 2 which are potentially serious) .

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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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.