Is Globaltec Formation Berhad (KLSE:GLOTEC) 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.' 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. Importantly, Globaltec Formation Berhad (KLSE:GLOTEC) does carry debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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 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 step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Globaltec Formation Berhad

What Is Globaltec Formation Berhad's Net Debt?

As you can see below, Globaltec Formation Berhad had RM17.0m of debt at September 2020, down from RM22.0m a year prior. But on the other hand it also has RM77.6m in cash, leading to a RM60.6m net cash position.

How Healthy Is Globaltec Formation Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Globaltec Formation Berhad had liabilities of RM72.4m due within 12 months and liabilities of RM14.4m due beyond that. Offsetting these obligations, it had cash of RM77.6m as well as receivables valued at RM28.1m due within 12 months. So it actually has RM18.9m more liquid assets than total liabilities.

It's good to see that Globaltec Formation Berhad has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Succinctly put, Globaltec Formation Berhad boasts net cash, so it's fair to say it does not have a heavy debt load!

It was also good to see that despite losing money on the EBIT line last year, Globaltec Formation Berhad turned things around in the last 12 months, delivering and EBIT of RM26m. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Globaltec Formation 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Globaltec Formation Berhad has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last year, Globaltec Formation Berhad produced sturdy free cash flow equating to 74% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

While it is always sensible to investigate a company's debt, in this case Globaltec Formation Berhad has RM60.6m in net cash and a decent-looking balance sheet. The cherry on top was that in converted 74% of that EBIT to free cash flow, bringing in RM19m. So we don't think Globaltec Formation Berhad's use of debt is risky. 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 1 warning sign for Globaltec Formation Berhad 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. 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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