Johns Lyng Group (ASX:JLG) Seems To Use Debt Rather Sparingly

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Johns Lyng Group Limited (ASX:JLG) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. By replacing dilution, though, debt can be an extremely good tool for businesses 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 and debt together.

See our latest analysis for Johns Lyng Group

What Is Johns Lyng Group's Debt?

As you can see below, at the end of June 2022, Johns Lyng Group had AU$25.8m of debt, up from AU$11.2m a year ago. Click the image for more detail. However, its balance sheet shows it holds AU$57.0m in cash, so it actually has AU$31.2m net cash.

How Strong Is Johns Lyng Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Johns Lyng Group had liabilities of AU$277.6m due within 12 months and liabilities of AU$39.2m due beyond that. On the other hand, it had cash of AU$57.0m and AU$254.0m worth of receivables due within a year. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.

This state of affairs indicates that Johns Lyng Group's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the AU$1.76b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Johns Lyng Group also has more cash than debt, so we're pretty confident it can manage its debt safely.

On top of that, Johns Lyng Group grew its EBIT by 60% over the last twelve months, and that growth will make it easier to handle its debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Johns Lyng Group 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Johns Lyng Group may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the most recent three years, Johns Lyng Group recorded free cash flow worth 64% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Johns Lyng Group has AU$31.2m in net cash. And we liked the look of last year's 60% year-on-year EBIT growth. So we don't think Johns Lyng Group's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. We've identified 2 warning signs with Johns Lyng Group , and understanding them should be part of your investment process.

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.