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.' 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. Importantly, Teo Guan Lee Corporation Berhad (KLSE:TGL) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt Dangerous?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. The first step when considering a company's debt levels is to consider its cash and debt together.
How Much Debt Does Teo Guan Lee Corporation Berhad Carry?
As you can see below, Teo Guan Lee Corporation Berhad had RM8.50m of debt, at March 2021, which is about the same as the year before. You can click the chart for greater detail. But on the other hand it also has RM39.2m in cash, leading to a RM30.7m net cash position.
How Healthy Is Teo Guan Lee Corporation Berhad's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Teo Guan Lee Corporation Berhad had liabilities of RM28.3m due within 12 months and liabilities of RM8.99m due beyond that. On the other hand, it had cash of RM39.2m and RM20.8m worth of receivables due within a year. So it can boast RM22.7m more liquid assets than total liabilities.
This surplus suggests that Teo Guan Lee Corporation Berhad is using debt in a way that is appears to be both safe and conservative. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, Teo Guan Lee Corporation Berhad boasts net cash, so it's fair to say it does not have a heavy debt load!
In fact Teo Guan Lee Corporation Berhad's saving grace is its low debt levels, because its EBIT has tanked 21% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Teo Guan Lee Corporation 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. Teo Guan Lee Corporation 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 most recent three years, Teo Guan Lee Corporation Berhad recorded free cash flow worth 74% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.
While we empathize with investors who find debt concerning, you should keep in mind that Teo Guan Lee Corporation Berhad has net cash of RM30.7m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of RM2.6m, being 74% of its EBIT. So is Teo Guan Lee Corporation Berhad's debt a risk? It doesn't seem so to us. 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. Be aware that Teo Guan Lee Corporation Berhad is showing 2 warning signs in our investment analysis , you should know about...
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.
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