We Think Majuperak Holdings Berhad (KLSE:MJPERAK) Can Stay On Top Of Its Debt

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that '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 Majuperak Holdings Berhad (KLSE:MJPERAK) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Majuperak Holdings Berhad

What Is Majuperak Holdings Berhad's Net Debt?

The image below, which you can click on for greater detail, shows that Majuperak Holdings Berhad had debt of RM10.8m at the end of June 2022, a reduction from RM11.5m over a year. On the flip side, it has RM1.83m in cash leading to net debt of about RM8.93m.

How Strong Is Majuperak Holdings Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Majuperak Holdings Berhad had liabilities of RM80.4m due within 12 months and liabilities of RM27.0m due beyond that. Offsetting these obligations, it had cash of RM1.83m as well as receivables valued at RM136.1m due within 12 months. So it can boast RM30.6m more liquid assets than total liabilities.

This luscious liquidity implies that Majuperak Holdings Berhad's balance sheet is sturdy like a giant sequoia tree. Having regard to this fact, we think its balance sheet is as strong as an ox.

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).

Majuperak Holdings Berhad has a low net debt to EBITDA ratio of only 0.43. And its EBIT covers its interest expense a whopping 15.6 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. The modesty of its debt load may become crucial for Majuperak Holdings Berhad if management cannot prevent a repeat of the 51% cut to EBIT over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Majuperak Holdings 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the last two years, Majuperak Holdings Berhad saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

Majuperak Holdings Berhad's EBIT growth rate was a real negative on this analysis, as was its conversion of EBIT to free cash flow. But like a ballerina ending on a perfect pirouette, it has not trouble covering its interest expense with its EBIT. Considering this range of data points, we think Majuperak Holdings Berhad is in a good position to manage its debt levels. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 4 warning signs for Majuperak Holdings Berhad you should be aware of, and 1 of them is a bit unpleasant.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.