Press Metal Aluminium Holdings Berhad (KLSE:PMETAL) Has A Pretty Healthy Balance Sheet

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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, Press Metal Aluminium Holdings Berhad (KLSE:PMETAL) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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.

See our latest analysis for Press Metal Aluminium Holdings Berhad

How Much Debt Does Press Metal Aluminium Holdings Berhad Carry?

As you can see below, at the end of March 2021, Press Metal Aluminium Holdings Berhad had RM5.37b of debt, up from RM4.48b a year ago. Click the image for more detail. However, it does have RM325.4m in cash offsetting this, leading to net debt of about RM5.04b.

A Look At Press Metal Aluminium Holdings Berhad's Liabilities

We can see from the most recent balance sheet that Press Metal Aluminium Holdings Berhad had liabilities of RM2.92b falling due within a year, and liabilities of RM4.44b due beyond that. Offsetting this, it had RM325.4m in cash and RM1.18b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by RM5.85b.

Since publicly traded Press Metal Aluminium Holdings Berhad shares are worth a total of RM39.4b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Press Metal Aluminium Holdings Berhad's debt is 3.8 times its EBITDA, and its EBIT cover its interest expense 6.4 times over. Taken together this implies that, while we wouldn't want to see debt levels rise, we think it can handle its current leverage. If Press Metal Aluminium Holdings Berhad can keep growing EBIT at last year's rate of 13% over the last year, then it will find its debt load easier to manage. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Press Metal Aluminium Holdings 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. In the last three years, Press Metal Aluminium Holdings Berhad's free cash flow amounted to 41% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

Press Metal Aluminium Holdings Berhad's net debt to EBITDA was a real negative on this analysis, although the other factors we considered were considerably better. There's no doubt that it has an adequate capacity to grow its EBIT. Considering this range of data points, we think Press Metal Aluminium Holdings Berhad is in a good position to manage its debt levels. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 1 warning sign for Press Metal Aluminium Holdings Berhad you should be aware of.

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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