We Think SEG International Bhd (KLSE:SEG) Can Stay On Top Of Its Debt

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. Importantly, SEG International Bhd (KLSE:SEG) does carry debt. 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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for SEG International Bhd

How Much Debt Does SEG International Bhd Carry?

As you can see below, SEG International Bhd had RM29.3m of debt at March 2021, down from RM57.5m a year prior. However, it does have RM67.1m in cash offsetting this, leading to net cash of RM37.8m.

How Healthy Is SEG International Bhd's Balance Sheet?

According to the last reported balance sheet, SEG International Bhd had liabilities of RM123.7m due within 12 months, and liabilities of RM126.8m due beyond 12 months. Offsetting this, it had RM67.1m in cash and RM36.7m in receivables that were due within 12 months. So its liabilities total RM146.7m more than the combination of its cash and short-term receivables.

Of course, SEG International Bhd has a market capitalization of RM778.4m, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, SEG International Bhd also has more cash than debt, so we're pretty confident it can manage its debt safely.

But the other side of the story is that SEG International Bhd saw its EBIT decline by 6.0% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. There's no doubt that we learn most about debt from the balance sheet. But it is SEG International Bhd'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, a company can only pay off debt with cold hard cash, not accounting profits. SEG International Bhd may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, SEG International Bhd actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

While SEG International Bhd does have more liabilities than liquid assets, it also has net cash of RM37.8m. And it impressed us with free cash flow of RM62m, being 111% of its EBIT. So we don't have any problem with SEG International Bhd's use of debt. 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. For example, we've discovered 1 warning sign for SEG International Bhd that you should be aware of before investing here.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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This article by Simply Wall St is general in nature. 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.
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