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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Singapore Post Limited (SGX:S08) makes use of debt. But the real question is whether this debt is making the company risky.
When Is Debt Dangerous?
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 frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.
How Much Debt Does Singapore Post Carry?
The image below, which you can click on for greater detail, shows that Singapore Post had debt of S$322.3m at the end of March 2021, a reduction from S$364.4m over a year. But on the other hand it also has S$513.4m in cash, leading to a S$191.0m net cash position.
How Healthy Is Singapore Post's Balance Sheet?
According to the last reported balance sheet, Singapore Post had liabilities of S$594.8m due within 12 months, and liabilities of S$455.5m due beyond 12 months. On the other hand, it had cash of S$513.4m and S$166.4m worth of receivables due within a year. So its liabilities total S$370.6m more than the combination of its cash and short-term receivables.
This deficit isn't so bad because Singapore Post is worth S$1.50b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Singapore Post boasts net cash, so it's fair to say it does not have a heavy debt load!
It is just as well that Singapore Post's load is not too heavy, because its EBIT was down 45% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. 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 Singapore Post'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Singapore Post 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. Happily for any shareholders, Singapore Post actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.
Although Singapore Post's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of S$191.0m. The cherry on top was that in converted 116% of that EBIT to free cash flow, bringing in S$194m. So we don't have any problem with Singapore Post's use of debt. 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, we've discovered 1 warning sign for Singapore Post that you should be aware of before investing here.
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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