Can Singapore Technologies Engineering Ltd Hold Up In A Recession?

Singapore is no stranger to recessions. As such, a recession scenario can be something to think about before we invest.

Like much of the world, the Lion City’s economy suffered during the Global Financial Crisis of 2008-2009. In the third-quarter last year, Singapore had narrowly missed entering a technical recession. If history is a guide, it’s almost a certainty that there will be harder times for Singapore’s economy at some point in the future.

When that happens, we want to be sure that the companies we invest in can survive or even thrive.

Measuring the strength of the balance sheet

“We never want to count on the kindness of strangers in order to meet tomorrow’s obligations.”

– Warren Buffett

Having a strong balance sheet can be of great help to companies in meeting the demands of recessionary episodes. We can get a quick idea of a company’s balance sheet strength using two simple ratios.

Let’s run engineering conglomerate, Singapore Technologies Engineering Ltd  (SGX: S63), through both ratios today. We will be using the company’s figures for the quarter ended 30 September 2015.

The first is called the current ratio. A measure of just how much liquidity a company has, this number is simply a company’s current assets divided by its current liabilities.

ST Engineering’s Current Assets S$4.7 billion
ST Engineering’s Current Liabilities S$3.8 billion
Current Ratio 1.24

Source: ST Engineering’s earnings report

In general, I like to see a current ratio of 1.5 or higher. As you can tell, ST Engineering falls behind here. It’s also worth noting that the engineering conglomerate has a fair bit of debt on its balance sheet – some $1.14 billion in total borrowings as of 30 September 2015 – though it also has a sizeable cash hoard of $920 million.

Let’s now look at the second ratio: the quick ratio.

It is similar to the current ratio, but it takes the company’s inventory out of the equation. This is because inventories may not always be worth the amount that are recorded in the books. By removing inventory from the picture, you can find out if a company really has sufficient liquid assets to meet short-term operating needs.

ST Engineering’s Current Assets S$4.7 billion
ST Engineering’s Current Liabilities S$3.8 billion
ST Engineering’s Inventory S$2.0 billion
Quick Ratio 0.71

Source: ST Engineering’s earnings report

A quick ratio of over 1 is what I’m looking for, so ST Engineering has once again failed to clear the hurdle.

ST Engineering’s inventory makes up a sizable portion of its current assets. The engineering conglomerate’s inventory at the end of 30 September 2015 had increased by 3.2% compared to a year ago. The increase comes despite the company’s revenue for the third-quarter of 2015 retreating by 3.4% year-on-year.

The movement of ST Engineering’s inventory will be something worth keeping tabs on as inventory growth in the absence of revenue growth may be a sign of potential problems ahead.

Foolish summary

The two ratios above give you a hint on how ST Engineering is able to finance its current obligations when they become due.

They represent useful starting points, but further study is required to understand whether the company’s business is really able to sustain itself when a recession comes knocking on the door.

(Learn how to calculate the current ratio and quick ratio here.)

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Chin Hui Leong doesn’t own shares in any companies mentioned.