Melewar Industrial Group Berhad (KLSE:MELEWAR) Is Making Moderate Use Of Debt

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. As with many other companies Melewar Industrial Group Berhad (KLSE:MELEWAR) makes use of debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Melewar Industrial Group Berhad

How Much Debt Does Melewar Industrial Group Berhad Carry?

The image below, which you can click on for greater detail, shows that Melewar Industrial Group Berhad had debt of RM110.8m at the end of March 2023, a reduction from RM140.8m over a year. However, it also had RM73.5m in cash, and so its net debt is RM37.2m.

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

Zooming in on the latest balance sheet data, we can see that Melewar Industrial Group Berhad had liabilities of RM127.3m due within 12 months and liabilities of RM79.3m due beyond that. Offsetting these obligations, it had cash of RM73.5m as well as receivables valued at RM72.8m due within 12 months. So its liabilities total RM60.2m more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of RM93.4m, so it does suggest shareholders should keep an eye on Melewar Industrial Group Berhad's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Melewar Industrial Group Berhad will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Melewar Industrial Group Berhad had a loss before interest and tax, and actually shrunk its revenue by 23%, to RM561m. That makes us nervous, to say the least.

Caveat Emptor

Not only did Melewar Industrial Group Berhad's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping RM10m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. We would feel better if it turned its trailing twelve month loss of RM7.3m into a profit. In the meantime, we consider the stock very risky. 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. For instance, we've identified 1 warning sign for Melewar Industrial Group Berhad that you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.