These 4 Measures Indicate That Mentiga Corporation Berhad (KLSE:MENTIGA) Is Using Debt Extensively

Warren Buffett famously said, '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. We can see that Mentiga Corporation Berhad (KLSE:MENTIGA) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Mentiga Corporation Berhad

How Much Debt Does Mentiga Corporation Berhad Carry?

As you can see below, at the end of December 2020, Mentiga Corporation Berhad had RM27.0m of debt, up from RM24.6m a year ago. Click the image for more detail. However, it does have RM2.34m in cash offsetting this, leading to net debt of about RM24.7m.

How Strong Is Mentiga Corporation Berhad's Balance Sheet?

The latest balance sheet data shows that Mentiga Corporation Berhad had liabilities of RM24.1m due within a year, and liabilities of RM52.3m falling due after that. Offsetting these obligations, it had cash of RM2.34m as well as receivables valued at RM8.31m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by RM65.7m.

Given this deficit is actually higher than the company's market capitalization of RM62.8m, we think shareholders really should watch Mentiga Corporation Berhad's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Mentiga Corporation Berhad's net debt is 4.9 times its EBITDA, which is a significant but still reasonable amount of leverage. However, its interest coverage of 11.4 is very high, suggesting that the interest expense on the debt is currently quite low. The bad news is that Mentiga Corporation Berhad saw its EBIT decline by 18% over the last year. If earnings continue to decline at that rate then handling the debt will be more difficult than taking three children under 5 to a fancy pants restaurant. When analysing debt levels, the balance sheet is the obvious place to start. But it is Mentiga Corporation Berhad's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

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. Over the last three years, Mentiga Corporation Berhad saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

To be frank both Mentiga Corporation Berhad's EBIT growth rate and its track record of converting EBIT to free cash flow make us rather uncomfortable with its debt levels. But on the bright side, its interest cover is a good sign, and makes us more optimistic. Overall, it seems to us that Mentiga Corporation Berhad's balance sheet is really quite a risk to the business. So we're almost as wary of this stock as a hungry kitten is about falling into its owner's fish pond: once bitten, twice shy, as they say. 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. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for Mentiga Corporation Berhad you should know about.

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. 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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