Is Wilmar International (SGX:F34) using too much debt?

Howard Marks said it well when he said that, rather than worrying about stock price volatility, “the possibility of permanent loss is the risk I worry about…and that every practical investor that I know is worried”. It’s natural to consider a company’s balance sheet when looking at its riskiness, as debt is often involved when a company fails. We note that Wilmar International Limited (SGX:F34) has a debt on its balance sheet. But should shareholders worry about its use of debt?

What risk does debt carry?

Generally speaking, debt only becomes a real problem when a company cannot easily repay it, either by raising capital or with its own cash flow. If things go really bad, lenders can take over the business. However, a more common (but still painful) scenario is that it has to raise new equity at a low price, thereby permanently diluting shareholders. Of course, debt can be an important tool in businesses, especially capital-intensive businesses. When we look at debt levels, we first consider cash and debt levels, together.

Discover our latest analysis for Wilmar International

What is Wilmar International’s debt?

As you can see below, at the end of June 2022, Wilmar International had $32.3 billion in debt, up from $28.2 billion a year ago. Click on the image for more details. However, he also had $7.69 billion in cash, so his net debt is $24.6 billion.

SGX:F34 Debt to Equity History October 9, 2022

A Look at Wilmar International’s Responsibilities

The latest balance sheet data shows that Wilmar International had liabilities of $30.6 billion due within the year, and liabilities of $8.62 billion due thereafter. In compensation for these obligations, it had cash of 7.69 billion US dollars as well as receivables valued at 10.5 billion US dollars due within 12 months. Thus, its liabilities outweigh the sum of its cash and (current) receivables by $21.1 billion.

Given that this deficit is actually higher than the company’s massive market cap of $16.3 billion, we think shareholders really should be watching Wilmar International’s debt levels, like a parent watching their child riding a bicycle for the first time. In the scenario where the company were to quickly clean up its balance sheet, it seems likely that shareholders would suffer significant dilution.

We use two main ratios to inform us about debt to earnings levels. The first is net debt divided by earnings before interest, taxes, depreciation and amortization (EBITDA), while the second is how often its earnings before interest and taxes (EBIT) covers its interest expense (or its interests, for short). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.

Strangely, Wilmar International has a sky-high EBITDA ratio of 6.0, implying high debt, but high interest coverage of 11.8. Either he has access to very cheap long-term debt, or his interest costs will increase! We note that Wilmar International has increased its EBIT by 25% over the past year, which should facilitate debt repayment in the future. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future earnings, more than anything, that will determine Wilmar International’s ability to maintain a healthy balance sheet in the future. So if you are focused on the future, you can check out this free report showing analyst earnings forecast.

But our last consideration is also important, because a company cannot pay debt with paper profits; he needs cash. It is therefore worth checking how much of this EBIT is supported by free cash flow. Over the past three years, Wilmar International has experienced substantial negative free cash flow, in total. While investors no doubt expect a reversal of this situation in due course, it clearly means that its use of debt is more risky.

Our point of view

To be frank, Wilmar International’s net debt to EBITDA ratio and history of converting EBIT to free cash flow makes us rather uncomfortable with its debt levels. But on the bright side, its interest coverage is a good sign and makes us more optimistic. Looking at the big picture, it seems clear to us that Wilmar International’s use of debt creates risks for the business. If all goes well, it can pay off, but the downside of this debt is a greater risk of permanent losses. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks reside on the balance sheet, far from it. Example: we have identified 3 warning signs for Wilmar International you should be aware, and one of them is concerning.

In the end, it’s often best to focus on companies that aren’t in debt. You can access our special list of these companies (all with a track record of earnings growth). It’s free.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.

Valuation is complex, but we help make it simple.

Find out if Wilmar International is potentially overvalued or undervalued by viewing our full analysis, which includes fair value estimates, risks and warnings, dividends, insider trading and financial health.

See the free analysis

Comments are closed.