Melewar Industrial Group Berhad (KLSE:MELEWAR) Has A Somewhat Strained Balance Sheet

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 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. Importantly, Melewar Industrial Group Berhad (KLSE:MELEWAR) does carry debt. But the more important question is: how much risk is that debt creating?

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. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Melewar Industrial Group Berhad

What Is Melewar Industrial Group Berhad's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Melewar Industrial Group Berhad had RM88.0m of debt in December 2020, down from RM118.5m, one year before. But it also has RM93.2m in cash to offset that, meaning it has RM5.25m net cash.

How Healthy Is Melewar Industrial Group Berhad's Balance Sheet?

The latest balance sheet data shows that Melewar Industrial Group Berhad had liabilities of RM210.2m due within a year, and liabilities of RM77.4m falling due after that. Offsetting this, it had RM93.2m in cash and RM115.7m in receivables that were due within 12 months. So it has liabilities totalling RM78.6m more than its cash and near-term receivables, combined.

Melewar Industrial Group Berhad has a market capitalization of RM219.2m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. Despite its noteworthy liabilities, Melewar Industrial Group Berhad boasts net cash, so it's fair to say it does not have a heavy debt load!

Importantly, Melewar Industrial Group Berhad's EBIT fell a jaw-dropping 40% in the last twelve months. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. When analysing debt levels, the balance sheet is the obvious place to start. But it is Melewar Industrial Group Berhad's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Melewar Industrial Group Berhad 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. During the last three years, Melewar Industrial Group Berhad burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing up

Although Melewar Industrial Group Berhad's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of RM5.25m. Despite its cash we think that Melewar Industrial Group Berhad seems to struggle to grow its EBIT, so we are wary of the stock. 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 3 warning signs with Melewar Industrial Group 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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