TASCO Berhad (KLSE:TASCO) Seems To Use Debt Quite Sensibly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 TASCO Berhad (KLSE:TASCO) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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 step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for TASCO Berhad

What Is TASCO Berhad's Net Debt?

The image below, which you can click on for greater detail, shows that TASCO Berhad had debt of RM258.6m at the end of December 2020, a reduction from RM334.0m over a year. However, it also had RM130.7m in cash, and so its net debt is RM128.0m.

How Strong Is TASCO Berhad's Balance Sheet?

According to the last reported balance sheet, TASCO Berhad had liabilities of RM149.4m due within 12 months, and liabilities of RM253.2m due beyond 12 months. Offsetting this, it had RM130.7m in cash and RM180.8m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by RM91.2m.

Of course, TASCO Berhad has a market capitalization of RM808.0m, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

TASCO Berhad's net debt is sitting at a very reasonable 1.6 times its EBITDA, while its EBIT covered its interest expense just 4.7 times last year. While these numbers do not alarm us, it's worth noting that the cost of the company's debt is having a real impact. It is well worth noting that TASCO Berhad's EBIT shot up like bamboo after rain, gaining 58% in the last twelve months. That'll make it easier to manage its debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if TASCO Berhad can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. In the last three years, TASCO Berhad's free cash flow amounted to 40% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

The good news is that TASCO Berhad's demonstrated ability to grow its EBIT delights us like a fluffy puppy does a toddler. And we also thought its net debt to EBITDA was a positive. Looking at all the aforementioned factors together, it strikes us that TASCO Berhad can handle its debt fairly comfortably. 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. 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. For example - TASCO Berhad has 2 warning signs we think you should be aware of.

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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