Here's Why Gas Malaysia Berhad (KLSE:GASMSIA) Can Manage Its Debt Responsibly

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. As with many other companies Gas Malaysia Berhad (KLSE:GASMSIA) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Gas Malaysia Berhad

How Much Debt Does Gas Malaysia Berhad Carry?

The chart below, which you can click on for greater detail, shows that Gas Malaysia Berhad had RM352.7m in debt in March 2021; about the same as the year before. However, it also had RM219.0m in cash, and so its net debt is RM133.7m.

How Strong Is Gas Malaysia Berhad's Balance Sheet?

We can see from the most recent balance sheet that Gas Malaysia Berhad had liabilities of RM1.09b falling due within a year, and liabilities of RM299.5m due beyond that. Offsetting this, it had RM219.0m in cash and RM586.3m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by RM580.3m.

Given Gas Malaysia Berhad has a market capitalization of RM3.52b, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Gas Malaysia Berhad has a low net debt to EBITDA ratio of only 0.35. And its EBIT covers its interest expense a whopping 137 times over. So we're pretty relaxed about its super-conservative use of debt. Another good sign is that Gas Malaysia Berhad has been able to increase its EBIT by 21% in twelve months, making it easier to pay down debt. 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 Gas Malaysia 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. Over the most recent three years, Gas Malaysia Berhad recorded free cash flow worth 52% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Our View

The good news is that Gas Malaysia Berhad's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. And the good news does not stop there, as its net debt to EBITDA also supports that impression! We would also note that Gas Utilities industry companies like Gas Malaysia Berhad commonly do use debt without problems. Looking at the bigger picture, we think Gas Malaysia Berhad's use of debt seems quite reasonable and we're not concerned about it. While debt does bring risk, when used wisely it can also bring a higher return on equity. 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 - Gas Malaysia Berhad has 1 warning sign we think you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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This article by Simply Wall St is general in nature. 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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