These 4 Measures Indicate That Parkson Holdings Berhad (KLSE:PARKSON) Is Using Debt Extensively

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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 note that Parkson Holdings Berhad (KLSE:PARKSON) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Parkson Holdings Berhad

How Much Debt Does Parkson Holdings Berhad Carry?

The chart below, which you can click on for greater detail, shows that Parkson Holdings Berhad had RM1.74b in debt in December 2023; about the same as the year before. However, it also had RM1.51b in cash, and so its net debt is RM225.5m.

How Healthy Is Parkson Holdings Berhad's Balance Sheet?

According to the last reported balance sheet, Parkson Holdings Berhad had liabilities of RM2.51b due within 12 months, and liabilities of RM3.60b due beyond 12 months. On the other hand, it had cash of RM1.51b and RM599.1m worth of receivables due within a year. So its liabilities total RM3.99b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the RM293.0m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Parkson Holdings Berhad would probably need a major re-capitalization if its creditors were to demand repayment.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Parkson Holdings Berhad has a very low debt to EBITDA ratio of 0.34 so it is strange to see weak interest coverage, with last year's EBIT being only 1.3 times the interest expense. So one way or the other, it's clear the debt levels are not trivial. Pleasingly, Parkson Holdings Berhad is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 157% gain in the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But it is Parkson Holdings 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Happily for any shareholders, Parkson Holdings Berhad actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

We feel some trepidation about Parkson Holdings Berhad's difficulty level of total liabilities, but we've got positives to focus on, too. To wit both its conversion of EBIT to free cash flow and EBIT growth rate were encouraging signs. We think that Parkson Holdings Berhad's debt does make it a bit risky, after considering the aforementioned data points together. That's not necessarily a bad thing, since leverage can boost returns on equity, but it is something to be aware of. The balance sheet is clearly the area to focus on when you are analysing debt. 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 1 warning sign for Parkson Holdings Berhad you should know about.

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.