Family Zone Cyber Safety (ASX:FZO) Is Making Moderate Use Of Debt

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. As with many other companies Family Zone Cyber Safety Limited (ASX:FZO) makes use of debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Family Zone Cyber Safety

What Is Family Zone Cyber Safety's Net Debt?

As you can see below, at the end of December 2022, Family Zone Cyber Safety had AU$14.5m of debt, up from AU$3.33m a year ago. Click the image for more detail. On the flip side, it has AU$6.49m in cash leading to net debt of about AU$8.02m.

A Look At Family Zone Cyber Safety's Liabilities

We can see from the most recent balance sheet that Family Zone Cyber Safety had liabilities of AU$72.4m falling due within a year, and liabilities of AU$43.4m due beyond that. On the other hand, it had cash of AU$6.49m and AU$13.9m worth of receivables due within a year. So it has liabilities totalling AU$95.4m more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Family Zone Cyber Safety has a market capitalization of AU$170.3m, 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. 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 Family Zone Cyber Safety's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

In the last year Family Zone Cyber Safety wasn't profitable at an EBIT level, but managed to grow its revenue by 141%, to AU$64m. So there's no doubt that shareholders are cheering for growth

Caveat Emptor

While we can certainly appreciate Family Zone Cyber Safety's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Indeed, it lost a very considerable AU$69m 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. So we think its balance sheet is a little strained, though not beyond repair. However, it doesn't help that it burned through AU$28m of cash over the last year. So in short it's a really risky stock. 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. To that end, you should learn about the 3 warning signs we've spotted with Family Zone Cyber Safety (including 1 which is a bit unpleasant) .

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.

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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.