We Think Teo Seng Capital Berhad (KLSE:TEOSENG) Can Manage Its Debt With Ease

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Teo Seng Capital Berhad (KLSE:TEOSENG) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. 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 Teo Seng Capital Berhad

What Is Teo Seng Capital Berhad's Debt?

The image below, which you can click on for greater detail, shows that Teo Seng Capital Berhad had debt of RM105.7m at the end of March 2024, a reduction from RM170.1m over a year. However, it does have RM93.9m in cash offsetting this, leading to net debt of about RM11.8m.

How Strong Is Teo Seng Capital Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Teo Seng Capital Berhad had liabilities of RM132.7m due within 12 months and liabilities of RM81.7m due beyond that. Offsetting this, it had RM93.9m in cash and RM75.1m in receivables that were due within 12 months. So it has liabilities totalling RM45.3m more than its cash and near-term receivables, combined.

Since publicly traded Teo Seng Capital Berhad shares are worth a total of RM514.9m, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Teo Seng Capital Berhad has very little debt (net of cash), and boasts a debt to EBITDA ratio of 0.054 and EBIT of 32.2 times the interest expense. Indeed relative to its earnings its debt load seems light as a feather. Better yet, Teo Seng Capital Berhad grew its EBIT by 410% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Teo Seng Capital Berhad's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Teo Seng Capital Berhad produced sturdy free cash flow equating to 78% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

Teo Seng Capital Berhad's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. And the good news does not stop there, as its EBIT growth rate also supports that impression! It looks Teo Seng Capital Berhad has no trouble standing on its own two feet, and it has no reason to fear its lenders. To our minds it has a healthy happy balance sheet. 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. Be aware that Teo Seng Capital Berhad is showing 2 warning signs in our investment analysis , and 1 of those is significant...

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.

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