These 4 Measures Indicate That YTL Corporation Berhad (KLSE:YTL) Is Using Debt Extensively

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

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for YTL Corporation Berhad

What Is YTL Corporation Berhad's Net Debt?

As you can see below, YTL Corporation Berhad had RM43.0b of debt, at December 2022, which is about the same as the year before. You can click the chart for greater detail. However, it also had RM12.8b in cash, and so its net debt is RM30.2b.

How Healthy Is YTL Corporation Berhad's Balance Sheet?

The latest balance sheet data shows that YTL Corporation Berhad had liabilities of RM13.9b due within a year, and liabilities of RM41.6b falling due after that. On the other hand, it had cash of RM12.8b and RM5.13b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by RM37.6b.

The deficiency here weighs heavily on the RM8.55b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, YTL Corporation 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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Weak interest cover of 1.6 times and a disturbingly high net debt to EBITDA ratio of 6.6 hit our confidence in YTL Corporation Berhad like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. Looking on the bright side, YTL Corporation Berhad boosted its EBIT by a silky 61% in the last year. Like a mother's loving embrace of a newborn that sort of growth builds resilience, putting the company in a stronger position to manage its debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if YTL Corporation Berhad can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. In the last three years, YTL Corporation Berhad's free cash flow amounted to 23% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

On the face of it, YTL Corporation Berhad's net debt to EBITDA 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. We should also note that Integrated Utilities industry companies like YTL Corporation Berhad commonly do use debt without problems. Overall, it seems to us that YTL Corporation Berhad's balance sheet is really quite a risk to the business. For this reason we're pretty cautious about the stock, and we think shareholders should keep a close eye on its liquidity. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. We've identified 3 warning signs with YTL Corporation Berhad (at least 2 which can't be ignored) , and understanding them should be part of your investment process.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.