Westports Holdings Berhad (KLSE:WPRTS) Has A Pretty Healthy Balance Sheet

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Westports Holdings Berhad (KLSE:WPRTS) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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

What Is Westports Holdings Berhad's Net Debt?

The image below, which you can click on for greater detail, shows that Westports Holdings Berhad had debt of RM975.0m at the end of December 2022, a reduction from RM1.15b over a year. However, because it has a cash reserve of RM510.6m, its net debt is less, at about RM464.4m.

How Strong 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 RM619.6m due within 12 months and liabilities of RM1.39b due beyond that. Offsetting these obligations, it had cash of RM510.6m as well as receivables valued at RM280.9m due within 12 months. So it has liabilities totalling RM1.22b more than its cash and near-term receivables, combined.

Given Westports Holdings Berhad has a market capitalization of RM12.6b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Westports Holdings Berhad's net debt is only 0.39 times its EBITDA. And its EBIT covers its interest expense a whopping 18.2 times over. So we're pretty relaxed about its super-conservative use of debt. On the other hand, Westports Holdings Berhad's EBIT dived 14%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Westports Holdings Berhad's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, Westports Holdings Berhad produced sturdy free cash flow equating to 70% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

Westports Holdings Berhad's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. But the stark truth is that we are 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. When we consider the range of factors above, it looks like Westports Holdings Berhad is pretty sensible with its use of debt. That means they are taking on a bit more risk, in the hope of boosting shareholder returns. 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. For example, we've discovered 1 warning sign for Westports Holdings Berhad that you should be aware of before investing here.

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.