These 4 Measures Indicate That SIA Engineering (SGX:S59) Is Using Debt Reasonably Well

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 SIA Engineering Company Limited (SGX:S59) makes use of debt. But should shareholders be worried about its use of debt?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for SIA Engineering

What Is SIA Engineering's Debt?

As you can see below, SIA Engineering had S$12.7m of debt at September 2020, down from S$15.7m a year prior. But it also has S$514.9m in cash to offset that, meaning it has S$502.2m net cash.

How Healthy Is SIA Engineering's Balance Sheet?

According to the last reported balance sheet, SIA Engineering had liabilities of S$223.8m due within 12 months, and liabilities of S$93.0m due beyond 12 months. Offsetting this, it had S$514.9m in cash and S$353.9m in receivables that were due within 12 months. So it actually has S$552.0m more liquid assets than total liabilities.

This excess liquidity suggests that SIA Engineering is taking a careful approach to debt. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Simply put, the fact that SIA Engineering has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that SIA Engineering's load is not too heavy, because its EBIT was down 91% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine SIA Engineering'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. SIA Engineering 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, SIA Engineering actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

While it is always sensible to investigate a company's debt, in this case SIA Engineering has S$502.2m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of S$62m, being 129% of its EBIT. So we don't think SIA Engineering's use of debt is risky. 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. For instance, we've identified 1 warning sign for SIA Engineering that you should be aware of.

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.

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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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