Here’s Why Telekom Malaysia Berhad (KLSE:TM) Can Manage Its Debt Responsibly

The external fund manager backed by Berkshire Hathaway’s Charlie Munger, Li Lu, makes no bones about it when he says ‘The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.’ So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Telekom Malaysia Berhad (KLSE:TM) makes use of debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Telekom Malaysia Berhad

How Much Debt Does Telekom Malaysia Berhad Carry?

You can click the graphic below for the historical numbers, but it shows that Telekom Malaysia Berhad had RM5.27b of debt in March 2023, down from RM5.71b, one year before. However, because it has a cash reserve of RM2.39b, its net debt is less, at about RM2.87b.

How Healthy Is Telekom Malaysia Berhad’s Balance Sheet?

We can see from the most recent balance sheet that Telekom Malaysia Berhad had liabilities of RM5.89b falling due within a year, and liabilities of RM9.31b due beyond that. On the other hand, it had cash of RM2.39b and RM3.77b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by RM9.03b.

While this might seem like a lot, it is not so bad since Telekom Malaysia Berhad has a market capitalization of RM19.0b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

In order to size up a company’s debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

While Telekom Malaysia Berhad’s low debt to EBITDA ratio of 0.63 suggests only modest use of debt, the fact that EBIT only covered the interest expense by 6.9 times last year does give us pause. But the interest payments are certainly sufficient to have us thinking about how affordable its debt is. Fortunately, Telekom Malaysia Berhad grew its EBIT by 10.0% in the last year, making that debt load look even more manageable. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Telekom Malaysia Berhad can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it’s worth checking how much of that EBIT is backed by free cash flow. During the last three years, Telekom Malaysia Berhad produced sturdy free cash flow equating to 56% of its EBIT, about what we’d expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

When it comes to the balance sheet, the standout positive for Telekom Malaysia Berhad was the fact that it seems able handle its debt, based on its EBITDA, confidently. However, our other observations weren’t so heartening. For instance it seems like it has to struggle a bit to handle its total liabilities. When we consider all the elements mentioned above, it seems to us that Telekom Malaysia Berhad is managing its debt quite well. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we’ve spotted 1 warning sign for Telekom Malaysia Berhad you should know about.

If, after all that, you’re more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.