Does Tek Seng Holdings Berhad (KLSE:TEKSENG) Have A Healthy Balance Sheet?

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Tek Seng Holdings Berhad (KLSE:TEKSENG) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Tek Seng Holdings Berhad

How Much Debt Does Tek Seng Holdings Berhad Carry?

As you can see below, Tek Seng Holdings Berhad had RM20.0m of debt, at September 2020, which is about the same as the year before. You can click the chart for greater detail. However, it does have RM57.8m in cash offsetting this, leading to net cash of RM37.8m.

A Look At Tek Seng Holdings Berhad's Liabilities

The latest balance sheet data shows that Tek Seng Holdings Berhad had liabilities of RM25.5m due within a year, and liabilities of RM24.5m falling due after that. On the other hand, it had cash of RM57.8m and RM26.8m worth of receivables due within a year. So it actually has RM34.7m more liquid assets than total liabilities.

This short term liquidity is a sign that Tek Seng Holdings Berhad could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Tek Seng Holdings Berhad has more cash than debt is arguably a good indication that it can manage its debt safely.

On the other hand, Tek Seng Holdings Berhad's EBIT dived 17%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Tek Seng Holdings Berhad will need earnings to service that debt. 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Tek Seng Holdings Berhad may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. In the last two years, Tek Seng Holdings Berhad's free cash flow amounted to 44% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Tek Seng Holdings Berhad has net cash of RM37.8m, as well as more liquid assets than liabilities. So we don't have any problem with Tek Seng Holdings Berhad's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Consider for instance, the ever-present spectre of investment risk. We've identified 5 warning signs with Tek Seng Holdings Berhad (at least 1 which can't be ignored) , and understanding them should be part of your investment process.

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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