Is SMRT Holdings Berhad (KLSE:SMRT) A Risky Investment?

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.' 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. We can see that SMRT Holdings Berhad (KLSE:SMRT) does use debt in its business. But the real question is whether this debt is making the company risky.

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. 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for SMRT Holdings Berhad

How Much Debt Does SMRT Holdings Berhad Carry?

The image below, which you can click on for greater detail, shows that SMRT Holdings Berhad had debt of RM20.2m at the end of September 2022, a reduction from RM28.0m over a year. However, it does have RM29.9m in cash offsetting this, leading to net cash of RM9.66m.

A Look At SMRT Holdings Berhad's Liabilities

We can see from the most recent balance sheet that SMRT Holdings Berhad had liabilities of RM84.2m falling due within a year, and liabilities of RM181.9m due beyond that. On the other hand, it had cash of RM29.9m and RM80.1m worth of receivables due within a year. So its liabilities total RM156.1m more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the RM89.0m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, SMRT Holdings Berhad would likely require a major re-capitalisation if it had to pay its creditors today. Given that SMRT Holdings Berhad has more cash than debt, we're pretty confident it can handle its debt, despite the fact that it has a lot of liabilities in total.

We note that SMRT Holdings Berhad grew its EBIT by 23% in the last year, and that should make it easier to pay down debt, going forward. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since SMRT Holdings 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. SMRT Holdings Berhad 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. Happily for any shareholders, SMRT Holdings Berhad actually produced more free cash flow than EBIT over the last two years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While SMRT Holdings Berhad does have more liabilities than liquid assets, it also has net cash of RM9.66m. And it impressed us with free cash flow of RM26m, being 106% of its EBIT. So although we see some areas for improvement, we're not too worried about SMRT Holdings Berhad's balance sheet. 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. Case in point: We've spotted 1 warning sign for SMRT Holdings Berhad you should be aware of.

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. 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.