Is Puncak Niaga Holdings Berhad (KLSE:PUNCAK) Using Too Much Debt?

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. As with many other companies Puncak Niaga Holdings Berhad (KLSE:PUNCAK) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. If things get really bad, the lenders can take control of the business. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Puncak Niaga Holdings Berhad

What Is Puncak Niaga Holdings Berhad's Net Debt?

The chart below, which you can click on for greater detail, shows that Puncak Niaga Holdings Berhad had RM1.25b in debt in September 2021; about the same as the year before. However, it does have RM385.6m in cash offsetting this, leading to net debt of about RM867.5m.

How Healthy Is Puncak Niaga Holdings Berhad's Balance Sheet?

We can see from the most recent balance sheet that Puncak Niaga Holdings Berhad had liabilities of RM443.1m falling due within a year, and liabilities of RM1.33b due beyond that. On the other hand, it had cash of RM385.6m and RM164.5m worth of receivables due within a year. So it has liabilities totalling RM1.22b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the RM158.8m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Puncak Niaga Holdings Berhad would likely require a major re-capitalisation if it had to pay its creditors today.

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). 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).

Weak interest cover of 1.8 times and a disturbingly high net debt to EBITDA ratio of 9.2 hit our confidence in Puncak Niaga Holdings Berhad like a one-two punch to the gut. The debt burden here is substantial. However, one redeeming factor is that Puncak Niaga Holdings Berhad grew its EBIT at 12% over the last 12 months, boosting its ability to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is Puncak Niaga Holdings Berhad's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Puncak Niaga Holdings Berhad burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

On the face of it, Puncak Niaga Holdings Berhad's conversion of EBIT to free cash flow left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. But on the bright side, its EBIT growth rate is a good sign, and makes us more optimistic. It's also worth noting that Puncak Niaga Holdings Berhad is in the Water Utilities industry, which is often considered to be quite defensive. Taking into account all the aforementioned factors, it looks like Puncak Niaga Holdings Berhad has too much debt. That sort of riskiness is ok for some, but it certainly doesn't float our boat. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 3 warning signs for Puncak Niaga Holdings Berhad (1 is significant) 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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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.