Multi-Chem (SGX:AWZ) Could Easily Take On More Debt

Warren Buffett famously said, '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. We can see that Multi-Chem Limited (SGX:AWZ) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Multi-Chem

What Is Multi-Chem's Debt?

The image below, which you can click on for greater detail, shows that at June 2020 Multi-Chem had debt of S$6.55m, up from S$5.44m in one year. However, its balance sheet shows it holds S$77.7m in cash, so it actually has S$71.2m net cash.

How Healthy Is Multi-Chem's Balance Sheet?

The latest balance sheet data shows that Multi-Chem had liabilities of S$128.7m due within a year, and liabilities of S$6.34m falling due after that. Offsetting these obligations, it had cash of S$77.7m as well as receivables valued at S$118.2m due within 12 months. So it can boast S$60.8m more liquid assets than total liabilities.

This surplus strongly suggests that Multi-Chem has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this basis we think its balance sheet is strong like a sleek panther or even a proud lion. Succinctly put, Multi-Chem boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Multi-Chem has boosted its EBIT by 62%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Multi-Chem will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Multi-Chem may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Multi-Chem recorded free cash flow worth a fulsome 94% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Multi-Chem has net cash of S$71.2m, as well as more liquid assets than liabilities. The cherry on top was that in converted 94% of that EBIT to free cash flow, bringing in S$22m. At the end of the day we're not concerned about Multi-Chem's debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 2 warning signs for Multi-Chem that you should be aware of before investing here.

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.

If you’re looking to trade Multi-Chem, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.