Is Westports Holdings Berhad (KLSE:WPRTS) A Risky Investment?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We note that Westports Holdings Berhad (KLSE:WPRTS) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Westports Holdings Berhad

How Much Debt Does Westports Holdings Berhad Carry?

You can click the graphic below for the historical numbers, but it shows that Westports Holdings Berhad had RM850.0m of debt in June 2023, down from RM1.03b, one year before. However, it also had RM393.1m in cash, and so its net debt is RM456.9m.

How Healthy Is Westports Holdings Berhad's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Westports Holdings Berhad had liabilities of RM570.3m due within 12 months and liabilities of RM1.25b due beyond that. Offsetting this, it had RM393.1m in cash and RM346.7m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by RM1.08b.

Since publicly traded Westports Holdings Berhad shares are worth a total of RM11.3b, it seems unlikely that this level of liabilities would be a major threat. 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.

Westports Holdings Berhad's net debt is only 0.38 times its EBITDA. And its EBIT easily covers its interest expense, being 20.9 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. But the other side of the story is that Westports Holdings Berhad saw its EBIT decline by 9.3% over the last year. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. 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 Westports Holdings Berhad can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Westports Holdings Berhad produced sturdy free cash flow equating to 67% 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.

Our View

The good news is that Westports Holdings Berhad's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. But, on a more sombre note, we are a little concerned by its EBIT growth rate. It's also worth noting that Westports Holdings Berhad is in the Infrastructure industry, which is often considered to be quite defensive. Taking all this data into account, it seems to us that Westports Holdings Berhad takes a pretty sensible approach to debt. While that brings some risk, it can also enhance returns for shareholders. 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. Be aware that Westports Holdings Berhad is showing 1 warning sign in our investment analysis , 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.