Plenitude Berhad (KLSE:PLENITU) Takes On Some Risk With Its Use Of Debt

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Plenitude Berhad (KLSE:PLENITU) does have debt on its balance sheet. 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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.

See our latest analysis for Plenitude Berhad

How Much Debt Does Plenitude Berhad Carry?

The image below, which you can click on for greater detail, shows that at December 2020 Plenitude Berhad had debt of RM190.1m, up from RM136.1m in one year. But it also has RM322.6m in cash to offset that, meaning it has RM132.5m net cash.

How Healthy Is Plenitude Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Plenitude Berhad had liabilities of RM244.7m due within 12 months and liabilities of RM215.2m due beyond that. On the other hand, it had cash of RM322.6m and RM126.0m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by RM11.3m.

Given Plenitude Berhad has a market capitalization of RM389.2m, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Plenitude Berhad also has more cash than debt, so we're pretty confident it can manage its debt safely.

In fact Plenitude Berhad's saving grace is its low debt levels, because its EBIT has tanked 67% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Plenitude 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, a company can only pay off debt with cold hard cash, not accounting profits. Plenitude 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, Plenitude 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.

Summing up

We could understand if investors are concerned about Plenitude Berhad's liabilities, but we can be reassured by the fact it has has net cash of RM132.5m. So although we see some areas for improvement, we're not too worried about Plenitude Berhad's 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. To that end, you should learn about the 4 warning signs we've spotted with Plenitude Berhad (including 1 which doesn't sit too well with us) .

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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