Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Jatcorp Limited (ASX:JAT) makes use of debt. But the more important question is: how much risk is that debt creating?
When Is Debt A Problem?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.
How Much Debt Does Jatcorp Carry?
The image below, which you can click on for greater detail, shows that Jatcorp had debt of AU$8.19m at the end of December 2021, a reduction from AU$16.4m over a year. However, because it has a cash reserve of AU$8.14m, its net debt is less, at about AU$54.2k.
How Healthy Is Jatcorp's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Jatcorp had liabilities of AU$13.4m due within 12 months and liabilities of AU$5.86m due beyond that. Offsetting these obligations, it had cash of AU$8.14m as well as receivables valued at AU$1.77m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$9.39m.
While this might seem like a lot, it is not so bad since Jatcorp has a market capitalization of AU$33.6m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Carrying virtually no net debt, Jatcorp has a very light debt load indeed. There's no doubt that we learn most about debt from the balance sheet. But it is Jatcorp's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.
Over 12 months, Jatcorp made a loss at the EBIT level, and saw its revenue drop to AU$24m, which is a fall of 44%. To be frank that doesn't bode well.
Not only did Jatcorp's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost a very considerable AU$7.9m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through AU$4.4m of cash over the last year. So suffice it to say we consider the stock very risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 5 warning signs for Jatcorp (2 make us uncomfortable) you should be aware of.
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.
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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.