We Think Deleum Berhad (KLSE:DELEUM) Can Manage Its Debt With Ease

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 Deleum Berhad (KLSE:DELEUM) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Deleum Berhad

How Much Debt Does Deleum Berhad Carry?

You can click the graphic below for the historical numbers, but it shows that Deleum Berhad had RM22.1m of debt in March 2022, down from RM69.4m, one year before. But it also has RM199.6m in cash to offset that, meaning it has RM177.5m net cash.

How Healthy Is Deleum Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Deleum Berhad had liabilities of RM135.8m due within 12 months and liabilities of RM18.7m due beyond that. Offsetting these obligations, it had cash of RM199.6m as well as receivables valued at RM130.9m due within 12 months. So it can boast RM175.9m more liquid assets than total liabilities.

This excess liquidity is a great indication that Deleum Berhad's balance sheet is almost as strong as Fort Knox. With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Simply put, the fact that Deleum Berhad has more cash than debt is arguably a good indication that it can manage its debt safely.

On the other hand, Deleum Berhad's EBIT dived 15%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Deleum Berhad's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Deleum 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, Deleum Berhad actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While it is always sensible to investigate a company's debt, in this case Deleum Berhad has RM177.5m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of RM32m, being 139% of its EBIT. So is Deleum Berhad's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. We've identified 2 warning signs with Deleum Berhad , and understanding them should be part of your investment process.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.