Is Digistar Corporation Berhad (KLSE:DIGISTA) Using Too Much Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. As with many other companies Digistar Corporation Berhad (KLSE:DIGISTA) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

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What Is Digistar Corporation Berhad's Debt?

You can click the graphic below for the historical numbers, but it shows that Digistar Corporation Berhad had RM251.9m of debt in June 2022, down from RM268.1m, one year before. However, it also had RM28.0m in cash, and so its net debt is RM223.9m.

A Look At Digistar Corporation Berhad's Liabilities

According to the last reported balance sheet, Digistar Corporation Berhad had liabilities of RM47.1m due within 12 months, and liabilities of RM236.7m due beyond 12 months. Offsetting these obligations, it had cash of RM28.0m as well as receivables valued at RM22.0m due within 12 months. So its liabilities total RM233.8m more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the RM29.5m 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 definitely think shareholders need to watch this one closely. After all, Digistar Corporation Berhad would likely require a major re-capitalisation if it had to pay its creditors today. There's no doubt that we learn most about debt from the balance sheet. But it is Digistar Corporation Berhad's earnings that will influence how the balance sheet holds up in the future. 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.

In the last year Digistar Corporation Berhad managed to produce its first revenue as a listed company, but given the lack of profit, shareholders will no doubt be hoping to see some strong increases.

Caveat Emptor

Importantly, Digistar Corporation Berhad had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost a very considerable RM9.7m at the EBIT level. When you combine this with the very significant balance sheet liabilities mentioned above, we are so wary of it that we are basically at a loss for the right words. Like every long-shot we're sure it has a glossy presentation outlining its blue-sky potential. But the reality is that it is low on liquid assets relative to liabilities, and it lost RM1.8m in the last year. So we think buying this stock is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Digistar Corporation Berhad 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.