Is Pivotal Systems (ASX:PVS) Weighed On By Its Debt Load?

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.' 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. Importantly, Pivotal Systems Corporation (ASX:PVS) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Pivotal Systems

What Is Pivotal Systems's Net Debt?

The chart below, which you can click on for greater detail, shows that Pivotal Systems had US$2.69m in debt in December 2020; about the same as the year before. But it also has US$7.54m in cash to offset that, meaning it has US$4.85m net cash.

How Strong Is Pivotal Systems' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Pivotal Systems had liabilities of US$7.81m due within 12 months and liabilities of US$1.86m due beyond that. On the other hand, it had cash of US$7.54m and US$7.73m worth of receivables due within a year. So it actually has US$5.60m more liquid assets than total liabilities.

This surplus suggests that Pivotal Systems has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Pivotal Systems boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Pivotal Systems 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.

Over 12 months, Pivotal Systems reported revenue of US$22m, which is a gain of 44%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.

So How Risky Is Pivotal Systems?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And the fact is that over the last twelve months Pivotal Systems lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through US$12m of cash and made a loss of US$9.1m. With only US$4.85m on the balance sheet, it would appear that its going to need to raise capital again soon. With very solid revenue growth in the last year, Pivotal Systems may be on a path to profitability. Pre-profit companies are often risky, but they can also offer great rewards. 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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Pivotal Systems you should know about.

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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