David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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 can see that MCT Berhad (KLSE:MCT) does use debt in its business. But is this debt a concern to shareholders?
What Risk Does Debt Bring?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
View our latest analysis for MCT Berhad
What Is MCT Berhad's Debt?
You can click the graphic below for the historical numbers, but it shows that MCT Berhad had RM73.0m of debt in December 2022, down from RM527.5m, one year before. But it also has RM91.7m in cash to offset that, meaning it has RM18.7m net cash.
A Look At MCT Berhad's Liabilities
Zooming in on the latest balance sheet data, we can see that MCT Berhad had liabilities of RM256.8m due within 12 months and liabilities of RM250.5m due beyond that. Offsetting these obligations, it had cash of RM91.7m as well as receivables valued at RM246.9m due within 12 months. So its liabilities total RM168.8m more than the combination of its cash and short-term receivables.
MCT Berhad has a market capitalization of RM284.1m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, MCT Berhad also has more cash than debt, so we're pretty confident it can manage its debt safely.
Importantly, MCT Berhad's EBIT fell a jaw-dropping 88% in the last twelve months. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. When analysing debt levels, the balance sheet is the obvious place to start. But it is MCT Berhad's earnings that will influence how the balance sheet holds up in the future. 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. MCT 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. Over the last three years, MCT Berhad saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.
Summing Up
While MCT Berhad does have more liabilities than liquid assets, it also has net cash of RM18.7m. Despite the cash, we do find MCT Berhad's EBIT growth rate concerning, so we're not particularly comfortable with the stock. 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. For example, we've discovered 3 warning signs for MCT Berhad (1 shouldn't be ignored!) that you should be aware of before investing here.
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. 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.
About KLSE:AVALAND
Avaland Berhad
An investment holding company, operates as a property development company in Malaysia.
Undervalued with solid track record.