Gromutual Berhad (KLSE:GMUTUAL) Has A Rock Solid 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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Gromutual Berhad (KLSE:GMUTUAL) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 Gromutual Berhad

What Is Gromutual Berhad's Debt?

As you can see below, at the end of September 2023, Gromutual Berhad had RM78.7m of debt, up from RM67.1m a year ago. Click the image for more detail. However, because it has a cash reserve of RM60.8m, its net debt is less, at about RM17.8m.

How Healthy Is Gromutual Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Gromutual Berhad had liabilities of RM65.8m due within 12 months and liabilities of RM38.1m due beyond that. On the other hand, it had cash of RM60.8m and RM34.3m worth of receivables due within a year. So it has liabilities totalling RM8.78m more than its cash and near-term receivables, combined.

Since publicly traded Gromutual Berhad shares are worth a total of RM129.6m, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Gromutual Berhad's net debt is only 0.75 times its EBITDA. And its EBIT covers its interest expense a whopping 27.7 times over. So we're pretty relaxed about its super-conservative use of debt. On top of that, Gromutual Berhad grew its EBIT by 89% over the last twelve months, and that growth will make it easier to handle its debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Gromutual Berhad's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, Gromutual Berhad produced sturdy free cash flow equating to 65% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

Gromutual 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 the good news does not stop there, as its EBIT growth rate also supports that impression! Considering this range of factors, it seems to us that Gromutual Berhad is quite prudent with its debt, and the risks seem well managed. So we're not worried about the use of a little leverage on the balance sheet. There's no doubt that we learn most about debt from the balance sheet. 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 2 warning signs for Gromutual Berhad you should know about.

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.