Genetec Technology Berhad (KLSE:GENETEC) Seems To Use Debt Quite Sensibly

Warren Buffett famously said, '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 can see that Genetec Technology Berhad (KLSE:GENETEC) does use debt in its business. But the more important question is: how much risk is that debt creating?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Genetec Technology Berhad

What Is Genetec Technology Berhad's Debt?

As you can see below, at the end of September 2021, Genetec Technology Berhad had RM44.0m of debt, up from RM22.5m a year ago. Click the image for more detail. However, because it has a cash reserve of RM20.5m, its net debt is less, at about RM23.5m.

How Healthy Is Genetec Technology Berhad's Balance Sheet?

The latest balance sheet data shows that Genetec Technology Berhad had liabilities of RM89.2m due within a year, and liabilities of RM10.1m falling due after that. Offsetting this, it had RM20.5m in cash and RM111.2m in receivables that were due within 12 months. So it actually has RM32.5m more liquid assets than total liabilities.

Having regard to Genetec Technology Berhad's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the RM2.58b company is struggling for cash, we still think it's worth monitoring its balance sheet. But either way, Genetec Technology Berhad has virtually no net debt, so it's fair to say it does not have a heavy debt load!

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Genetec Technology Berhad has a low net debt to EBITDA ratio of only 0.96. And its EBIT covers its interest expense a whopping 19.8 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Even more impressive was the fact that Genetec Technology Berhad grew its EBIT by 2,060% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Genetec Technology Berhad's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Genetec Technology Berhad burned a lot of cash. 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.

Our View

Happily, Genetec Technology Berhad's impressive interest cover implies it has the upper hand on its debt. But the stark truth is that we are concerned by its conversion of EBIT to free cash flow. All these things considered, it appears that Genetec Technology Berhad can comfortably handle its current debt levels. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. 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. For instance, we've identified 3 warning signs for Genetec Technology Berhad (1 is potentially serious) you should be aware of.

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.

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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