We Think Kossan Rubber Industries Bhd (KLSE:KOSSAN) Can Manage Its Debt With Ease

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 note that Kossan Rubber Industries Bhd (KLSE:KOSSAN) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. 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.

See our latest analysis for Kossan Rubber Industries Bhd

What Is Kossan Rubber Industries Bhd's Debt?

As you can see below, Kossan Rubber Industries Bhd had RM511.7m of debt at September 2020, down from RM575.2m a year prior. But on the other hand it also has RM798.0m in cash, leading to a RM286.3m net cash position.

How Strong Is Kossan Rubber Industries Bhd's Balance Sheet?

According to the last reported balance sheet, Kossan Rubber Industries Bhd had liabilities of RM1.00b due within 12 months, and liabilities of RM233.3m due beyond 12 months. On the other hand, it had cash of RM798.0m and RM568.4m worth of receivables due within a year. So it actually has RM128.3m more liquid assets than total liabilities.

This state of affairs indicates that Kossan Rubber Industries Bhd's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the RM12.5b company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that Kossan Rubber Industries Bhd has more cash than debt is arguably a good indication that it can manage its debt safely.

Better yet, Kossan Rubber Industries Bhd grew its EBIT by 157% 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 Kossan Rubber Industries Bhd'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Kossan Rubber Industries Bhd has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the most recent three years, Kossan Rubber Industries Bhd recorded free cash flow worth 53% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Kossan Rubber Industries Bhd has net cash of RM286.3m, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 157% over the last year. So is Kossan Rubber Industries Bhd's debt a risk? It doesn't seem so to us. 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. Consider risks, for instance. Every company has them, and we've spotted 1 warning sign for Kossan Rubber Industries Bhd you should know about.

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.

If you’re looking to trade Kossan Rubber Industries Bhd, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

This article by Simply Wall St is general in nature. 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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.