We believe Zelan Berhad (KLSE: ZELAN) is taking risks with his debt
Some say volatility, rather than debt, is the best way to view risk as an investor, but Warren Buffett said “volatility is far from risk.” 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. Like many other companies Zelan Berhad (KLSE: ZELAN) uses debt. But the real question is whether this debt makes the business risky.
When is debt dangerous?
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. In the worst case scenario, a business can go bankrupt if it cannot pay its creditors. However, a more common (but still costly) event is when a company has to issue stock at bargain prices, constantly diluting shareholders, just to strengthen its balance sheet. 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. When we think of a business’s use of debt, we first look at cash flow and debt together.
Check out our latest analysis for Zelan Berhad
How much debt does Zelan Berhad carry?
You can click on the graph below for the historical figures, but it shows that Zelan Berhad had a debt of RM 516.5 million in June 2021, up from RM 546.9 million a year earlier. Net debt is about the same because it doesn’t have a lot of cash.
A look at the responsibilities of Zelan Berhad
Zooming in on the latest balance sheet data, we can see that Zelan Berhad had liabilities of RM 272.9 million due within 12 months and liabilities of RM 485.1 million beyond. In return, he had RM2.65 million in cash and RM97.8 million in receivables due within 12 months. So he has a liability totaling RM 657.4 million more than his cash and short-term receivables combined.
The lack here weighs heavily on the RM88.7million company itself, as if a child struggles under the weight of a huge backpack full of books, his gym gear, and a trumpet. We therefore believe that shareholders should watch it closely. In the end, Zelan Berhad would likely need a major recapitalization if his 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). The advantage of this approach is that we take into account both the absolute amount of debt (with net debt versus EBITDA) and the actual interest charges associated with this debt (with its coverage rate). interests).
While Zelan Berhad’s debt-to-EBITDA ratio of 9.5 suggests heavy leverage, his interest coverage of 9.8 implies that he is servicing that debt with ease. Our best guess is that the company does have significant debt. Notably, Zelan Berhad’s EBIT was higher than Elon Musk’s, gaining a whopping 225% from last year. The balance sheet is clearly the area you need to focus on when analyzing debt. But it is the profits of Zelan Berhad that will influence 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 repay its debts; accounting profits are not enough. We must therefore clearly verify whether this EBIT generates a corresponding free cash flow. Over the past three years, Zelan Berhad has actually generated more free cash flow than EBIT. This kind of strong cash generation warms our hearts like a puppy in a bumblebee costume.
Our point of view
Whereas Zelan Berhad’s total passive level makes us nervous. For example, its conversion from EBIT to free cash flow and the growth rate of EBIT give us some confidence in its ability to manage its debt. Looking at all the angles mentioned above, it seems to us that Zelan Berhad is a somewhat risky investment because of its debt. Not all risks are bad, as they can increase stock price returns if they are profitable, but this risk of leverage is worth keeping in mind. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks lie on the balance sheet – far from it. For example, we discovered 3 warning signs for Zelan Berhad (1 cannot be ignored!) Which you should be aware of before investing here.
If you are interested in investing in companies that can generate profits without the burden of debt, check out this page. free list of growing companies that have net cash on the balance sheet.
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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