Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Y.S.P. Southeast Asia Holding Berhad (KLSE:YSPSAH) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
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. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Y.S.P. Southeast Asia Holding Berhad's Net Debt?
The image below, which you can click on for greater detail, shows that at September 2020 Y.S.P. Southeast Asia Holding Berhad had debt of RM44.8m, up from RM35.6m in one year. However, it does have RM85.2m in cash offsetting this, leading to net cash of RM40.4m.
How Healthy Is Y.S.P. Southeast Asia Holding Berhad's Balance Sheet?
We can see from the most recent balance sheet that Y.S.P. Southeast Asia Holding Berhad had liabilities of RM76.1m falling due within a year, and liabilities of RM42.2m due beyond that. Offsetting this, it had RM85.2m in cash and RM85.3m in receivables that were due within 12 months. So it actually has RM52.2m more liquid assets than total liabilities.
It's good to see that Y.S.P. Southeast Asia Holding Berhad has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Succinctly put, Y.S.P. Southeast Asia Holding Berhad boasts net cash, so it's fair to say it does not have a heavy debt load!
On the other hand, Y.S.P. Southeast Asia Holding Berhad's EBIT dived 11%, 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 Y.S.P. Southeast Asia Holding 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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Y.S.P. Southeast Asia Holding 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 three years, Y.S.P. Southeast Asia Holding Berhad created free cash flow amounting to 16% of its EBIT, an uninspiring performance. That limp level of cash conversion undermines its ability to manage and pay down debt.
While we empathize with investors who find debt concerning, you should keep in mind that Y.S.P. Southeast Asia Holding Berhad has net cash of RM40.4m, as well as more liquid assets than liabilities. So we are not troubled with Y.S.P. Southeast Asia Holding Berhad's debt use. 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. To that end, you should learn about the 2 warning signs we've spotted with Y.S.P. Southeast Asia Holding Berhad (including 1 which can't be ignored) .
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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