Here's Why SD Guthrie Berhad (KLSE:SDG) Has A Meaningful Debt Burden

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. As with many other companies SD Guthrie Berhad (KLSE:SDG) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for SD Guthrie Berhad

How Much Debt Does SD Guthrie Berhad Carry?

As you can see below, SD Guthrie Berhad had RM5.33b of debt at September 2024, down from RM5.65b a year prior. However, it does have RM605.0m in cash offsetting this, leading to net debt of about RM4.73b.

How Strong Is SD Guthrie Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that SD Guthrie Berhad had liabilities of RM4.90b due within 12 months and liabilities of RM6.37b due beyond that. On the other hand, it had cash of RM605.0m and RM2.93b worth of receivables due within a year. So its liabilities total RM7.73b more than the combination of its cash and short-term receivables.

This deficit isn't so bad because SD Guthrie Berhad is worth RM33.0b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

SD Guthrie Berhad's net debt to EBITDA ratio of about 1.7 suggests only moderate use of debt. And its strong interest cover of 10.7 times, makes us even more comfortable. In fact SD Guthrie Berhad's saving grace is its low debt levels, because its EBIT has tanked 49% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if SD Guthrie 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Looking at the most recent three years, SD Guthrie Berhad recorded free cash flow of 43% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

SD Guthrie Berhad's struggle to grow its EBIT had us second guessing its balance sheet strength, but the other data-points we considered were relatively redeeming. In particular, its interest cover was re-invigorating. Looking at all the angles mentioned above, it does seem to us that SD Guthrie Berhad is a somewhat risky investment as a result of its debt. That's not necessarily a bad thing, since leverage can boost returns on equity, but it is something to be aware of. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 2 warning signs for SD Guthrie Berhad that you should be aware of before investing here.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.