Is PETRONAS Dagangan Berhad (KLSE:PETDAG) Using Too Much Debt?

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.' 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, PETRONAS Dagangan Berhad (KLSE:PETDAG) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for PETRONAS Dagangan Berhad

What Is PETRONAS Dagangan Berhad's Net Debt?

The image below, which you can click on for greater detail, shows that PETRONAS Dagangan Berhad had debt of RM16.7m at the end of June 2021, a reduction from RM20.0m over a year. But it also has RM2.67b in cash to offset that, meaning it has RM2.66b net cash.

A Look At PETRONAS Dagangan Berhad's Liabilities

According to the last reported balance sheet, PETRONAS Dagangan Berhad had liabilities of RM2.55b due within 12 months, and liabilities of RM219.6m due beyond 12 months. On the other hand, it had cash of RM2.67b and RM1.29b worth of receivables due within a year. So it can boast RM1.20b more liquid assets than total liabilities.

This surplus suggests that PETRONAS Dagangan Berhad has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, PETRONAS Dagangan Berhad boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that PETRONAS Dagangan Berhad has boosted its EBIT by 55%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if PETRONAS Dagangan Berhad can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. PETRONAS Dagangan 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. During the last three years, PETRONAS Dagangan Berhad produced sturdy free cash flow equating to 77% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

While it is always sensible to investigate a company's debt, in this case PETRONAS Dagangan Berhad has RM2.66b in net cash and a decent-looking balance sheet. And we liked the look of last year's 55% year-on-year EBIT growth. So is PETRONAS Dagangan Berhad's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for PETRONAS Dagangan Berhad you should know about.

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.

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.

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