Stock Analysis

Does JB Hi-Fi (ASX:JBH) Have A Healthy Balance Sheet?

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The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that JB Hi-Fi Limited (ASX:JBH) does use debt in its business. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

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How Much Debt Does JB Hi-Fi Carry?

You can click the graphic below for the historical numbers, but it shows that as of June 2022 JB Hi-Fi had AU$59.4m of debt, an increase on none, over one year. However, its balance sheet shows it holds AU$125.6m in cash, so it actually has AU$66.2m net cash.

ASX:JBH Debt to Equity History October 3rd 2022

A Look At JB Hi-Fi's Liabilities

According to the last reported balance sheet, JB Hi-Fi had liabilities of AU$1.31b due within 12 months, and liabilities of AU$574.8m due beyond 12 months. Offsetting this, it had AU$125.6m in cash and AU$132.6m in receivables that were due within 12 months. So it has liabilities totalling AU$1.62b more than its cash and near-term receivables, combined.

JB Hi-Fi has a market capitalization of AU$4.11b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, JB Hi-Fi boasts net cash, so it's fair to say it does not have a heavy debt load!

The good news is that JB Hi-Fi has increased its EBIT by 6.4% over twelve months, which should ease any concerns about debt repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine JB Hi-Fi's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While JB Hi-Fi has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, JB Hi-Fi generated free cash flow amounting to a very robust 99% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

Although JB Hi-Fi's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of AU$66.2m. And it impressed us with free cash flow of AU$570m, being 99% of its EBIT. So we don't think JB Hi-Fi's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 3 warning signs for JB Hi-Fi (1 doesn't sit too well with us) you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

Valuation is complex, but we're helping make it simple.

Find out whether JB Hi-Fi is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.

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