Is Jayex Technology (ASX:JTL) Using Debt In A Risky Way?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 Jayex Technology Limited (ASX:JTL) 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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Jayex Technology

What Is Jayex Technology's Debt?

The image below, which you can click on for greater detail, shows that at June 2021 Jayex Technology had debt of AU$5.09m, up from AU$4.69m in one year. However, it also had AU$2.22m in cash, and so its net debt is AU$2.87m.

How Strong Is Jayex Technology's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Jayex Technology had liabilities of AU$6.19m due within 12 months and liabilities of AU$3.21m due beyond that. Offsetting these obligations, it had cash of AU$2.22m as well as receivables valued at AU$1.51m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$5.67m.

When you consider that this deficiency exceeds the company's AU$5.51m market capitalization, you might well be inclined to review the balance sheet intently. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Jayex Technology will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Jayex Technology made a loss at the EBIT level, and saw its revenue drop to AU$5.0m, which is a fall of 28%. To be frank that doesn't bode well.

Caveat Emptor

Not only did Jayex Technology's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping AU$1.4m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it burned through AU$1.8m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 5 warning signs for Jayex Technology (2 are significant) you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.
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