Westports Holdings Berhad (KLSE:WPRTS) Seems To Use Debt Rather Sparingly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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.

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Westports Holdings Berhad

What Is Westports Holdings Berhad's Debt?

You can click the graphic below for the historical numbers, but it shows that Westports Holdings Berhad had RM1.03b of debt in June 2022, down from RM1.20b, one year before. However, it also had RM651.0m in cash, and so its net debt is RM374.0m.

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 RM840.1m due within 12 months and liabilities of RM1.39b due beyond that. Offsetting these obligations, it had cash of RM651.0m as well as receivables valued at RM269.3m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by RM1.31b.

Of course, Westports Holdings Berhad has a market capitalization of RM12.2b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

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 has a low net debt to EBITDA ratio of only 0.29. And its EBIT covers its interest expense a whopping 18.0 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. While Westports Holdings Berhad doesn't seem to have gained much on the EBIT line, at least earnings remain stable for now. 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Westports Holdings Berhad generated free cash flow amounting to a very robust 81% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

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. And that's just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. We would also note that Infrastructure industry companies like Westports Holdings Berhad commonly do use debt without problems. Zooming out, Westports Holdings Berhad seems to use debt quite reasonably; and that gets the nod from us. After all, sensible leverage can boost returns on equity. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 1 warning sign for Westports Holdings Berhad you should be aware of.

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. 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.