Is Lien Hoe Corporation Berhad (KLSE:LIENHOE) Using Too Much Debt?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Lien Hoe Corporation Berhad (KLSE:LIENHOE) does carry debt. 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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Lien Hoe Corporation Berhad

What Is Lien Hoe Corporation Berhad's Net Debt?

As you can see below, Lien Hoe Corporation Berhad had RM36.3m of debt, at March 2023, which is about the same as the year before. You can click the chart for greater detail. However, because it has a cash reserve of RM4.27m, its net debt is less, at about RM32.0m.

How Strong Is Lien Hoe Corporation Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Lien Hoe Corporation Berhad had liabilities of RM16.8m due within 12 months and liabilities of RM76.8m due beyond that. Offsetting this, it had RM4.27m in cash and RM2.93m in receivables that were due within 12 months. So it has liabilities totalling RM86.4m more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of RM93.1m. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Lien Hoe Corporation 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, Lien Hoe Corporation Berhad reported revenue of RM23m, which is a gain of 104%, although it did not report any earnings before interest and tax. So there's no doubt that shareholders are cheering for growth

Caveat Emptor

Even though Lien Hoe Corporation Berhad managed to grow its top line quite deftly, the cold hard truth is that it is losing money on the EBIT line. Indeed, it lost a very considerable RM26m at the EBIT level. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. However, it doesn't help that it burned through RM17m of cash over the last year. So suffice it to say we consider the stock very risky. 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. Be aware that Lien Hoe Corporation Berhad is showing 5 warning signs in our investment analysis , and 3 of those are a bit unpleasant...

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.