QES Group Berhad (KLSE:QES) Seems To Use Debt Quite Sensibly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 QES Group Berhad (KLSE:QES) 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for QES Group Berhad

What Is QES Group Berhad's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2021 QES Group Berhad had RM39.4m of debt, an increase on RM14.6m, over one year. But on the other hand it also has RM76.4m in cash, leading to a RM37.0m net cash position.

A Look At QES Group Berhad's Liabilities

According to the last reported balance sheet, QES Group Berhad had liabilities of RM75.4m due within 12 months, and liabilities of RM20.4m due beyond 12 months. Offsetting these obligations, it had cash of RM76.4m as well as receivables valued at RM62.9m due within 12 months. So it can boast RM43.4m more liquid assets than total liabilities.

This short term liquidity is a sign that QES Group Berhad could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, QES Group Berhad boasts net cash, so it's fair to say it does not have a heavy debt load!

Even more impressive was the fact that QES Group Berhad grew its EBIT by 128% 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 QES Group Berhad's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While QES Group 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. Over the last three years, QES Group Berhad saw substantial negative free cash flow, in total. 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.

Summing up

While it is always sensible to investigate a company's debt, in this case QES Group Berhad has RM37.0m in net cash and a decent-looking balance sheet. And we liked the look of last year's 128% year-on-year EBIT growth. So we don't have any problem with QES Group Berhad's use of debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with QES Group Berhad (at least 1 which shouldn't be ignored) , and understanding them should be part of your investment process.

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.

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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