These 4 Measures Indicate That Press Metal Aluminium Holdings Berhad (KLSE:PMETAL) Is Using Debt Safely

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 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. If things get really bad, the lenders can take control of the business. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Press Metal Aluminium Holdings Berhad

How Much Debt Does Press Metal Aluminium Holdings Berhad Carry?

The image below, which you can click on for greater detail, shows that Press Metal Aluminium Holdings Berhad had debt of RM3.97b at the end of September 2024, a reduction from RM4.40b over a year. However, it does have RM1.91b in cash offsetting this, leading to net debt of about RM2.06b.

How Strong Is Press Metal Aluminium Holdings Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Press Metal Aluminium Holdings Berhad had liabilities of RM3.45b due within 12 months and liabilities of RM3.28b due beyond that. On the other hand, it had cash of RM1.91b and RM1.72b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by RM3.10b.

Of course, Press Metal Aluminium Holdings Berhad has a market capitalization of RM40.8b, so these liabilities are probably manageable. 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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Press Metal Aluminium Holdings Berhad has a low net debt to EBITDA ratio of only 0.79. And its EBIT easily covers its interest expense, being 12.5 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Also good is that Press Metal Aluminium Holdings Berhad grew its EBIT at 18% over the last year, further increasing its ability to manage debt. When analysing debt levels, the balance sheet is the obvious place to start. 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're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Press Metal Aluminium Holdings Berhad generated free cash flow amounting to a very robust 87% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Our View

Press Metal Aluminium Holdings Berhad's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. And that's just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. Overall, we don't think Press Metal Aluminium Holdings Berhad is taking any bad risks, as its debt load seems modest. So we're not worried about the use of a little leverage on the balance sheet. Over time, share prices tend to follow earnings per share, so if you're interested in Press Metal Aluminium Holdings Berhad, you may well want to click here to check an interactive graph of its earnings per share history.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.