Legendary fund manager Li Lu (whom Charlie Munger supported) once said, “The biggest risk in investing is not price volatility, but the possibility that you will suffer a permanent loss of capital. It’s only natural to consider a company’s balance sheet when looking at its level of risk, as debt is often involved when a business collapses. Above all, Minda Global Berhad (KLSE: MINDA) is in debt. But the most important question is: what risk does this debt create?
Why Does Debt Bring Risk?
Generally speaking, debt only becomes a real problem when a company cannot repay it easily, either by raising capital or with its own cash flow. Ultimately, if the company can’t meet its legal debt repayment obligations, shareholders could walk away with nothing. While it’s not too common, we often see indebted companies continually diluting their shareholders because lenders are forcing them to raise capital at a ridiculous price. By replacing dilution, however, debt can be a very good tool for companies that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash flow and debt together.
Check out our latest analysis for Minda Global Berhad
What is Minda Global Berhad’s debt?
The graph below, which you can click for more details, shows Minda Global Berhad owed RM 25.9 million in debt as of June 2021; about the same as the year before. However, he has RM13.4million in cash offsetting this, which leads to net debt of around RM12.5million.
How healthy is Minda Global Berhad’s track record?
Zooming in on the latest balance sheet data, we can see that Minda Global Berhad had liabilities of RM 76.9 million due within 12 months and RM 148.2 million liabilities due beyond. In compensation for these obligations, he had cash of RM 13.4 million as well as receivables valued at RM 39.2 million due within 12 months. Thus, its liabilities exceed the sum of its cash and (short-term) receivables by RM 172.5 million.
This deficit casts a shadow over RM79.3million society like a towering colossus of mere mortals. So we would be watching its record closely, without a doubt. Ultimately, Minda Global Berhad would likely need a major recapitalization if its creditors demanded repayment.
We use two main ratios to inform us about the levels of debt compared to earnings. The first is net debt divided by earnings before interest, taxes, depreciation, and amortization (EBITDA), while the second is the number of times its profit before interest and taxes (EBIT) covers its interest expense (or its coverage of interest, for short). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.
Minda Global Berhad has a very low debt to EBITDA ratio of 0.50 so it is strange to see low interest coverage as last year’s EBIT was only 1.2 times interest expense . So one way or another, it’s clear that debt levels are not trivial. Notably, Minda Global Berhad recorded a loss in EBIT level last year, but improved it to reach positive EBIT of RM 18 million in the last twelve months. The balance sheet is clearly the area to focus on when analyzing debt. But it is the profits of Minda Global Berhad that will influence the performance of the balance sheet in the future. So, when considering debt, it is really worth looking at the profit trend. Click here for an interactive snapshot.
Finally, a business needs free cash flow to pay off debts; accounting profits are not enough. It is therefore important to check to what extent its earnings before interest and taxes (EBIT) are converted into actual free cash flow. Over the past year, Minda Global Berhad has recorded substantial total negative free cash flow. While investors no doubt expect this situation to reverse in due course, it clearly means that its use of debt is riskier.
Our point of view
To be frank, Minda Global Berhad’s conversion of EBIT to free cash flow and her track record of keeping total liabilities under control makes us rather uncomfortable with her debt levels. But on the positive side, its net debt to EBITDA is a good sign and makes us more optimistic. After looking at the data points discussed, we believe Minda Global Berhad has too much debt. While some investors like this kind of risky game, it is certainly not our cup of tea. The balance sheet is clearly the area to focus on when analyzing debt. But at the end of the day, every business can contain risks that exist off the balance sheet. For example, we discovered 4 warning signs for Minda Global Berhad which you should know before investing here.
If, after all of this, you’re more interested in a fast-growing company with a strong balance sheet, take a quick look at our list of cash net growth stocks.
This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in the mentioned stocks.
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