Is Nova MSC Berhad (KLSE:NOVAMSC) Using Debt Sensibly?

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.' 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 can see that Nova MSC Berhad (KLSE:NOVAMSC) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. 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 think about a company's use of debt, we first look at cash and debt together.

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What Is Nova MSC Berhad's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2022 Nova MSC Berhad had RM7.48m of debt, an increase on RM7.07m, over one year. However, its balance sheet shows it holds RM10.9m in cash, so it actually has RM3.40m net cash.

How Strong Is Nova MSC Berhad's Balance Sheet?

We can see from the most recent balance sheet that Nova MSC Berhad had liabilities of RM23.4m falling due within a year, and liabilities of RM1.66m due beyond that. Offsetting this, it had RM10.9m in cash and RM16.9m in receivables that were due within 12 months. So it actually has RM2.70m more liquid assets than total liabilities.

This short term liquidity is a sign that Nova MSC Berhad could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Nova MSC Berhad has more cash than debt is arguably a good indication that it can manage its debt safely. When analysing debt levels, the balance sheet is the obvious place to start. But it is Nova MSC 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.

Over 12 months, Nova MSC Berhad made a loss at the EBIT level, and saw its revenue drop to RM21m, which is a fall of 38%. To be frank that doesn't bode well.

So How Risky Is Nova MSC Berhad?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And the fact is that over the last twelve months Nova MSC Berhad lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through RM3.7m of cash and made a loss of RM22m. Given it only has net cash of RM3.40m, the company may need to raise more capital if it doesn't reach break-even soon. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. When analysing debt levels, the balance sheet is the obvious place to start. 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 3 warning signs for Nova MSC Berhad (of which 1 is a bit concerning!) you should know about.

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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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.