Is Integrated Research (ASX:IRI) Using Too Much Debt?

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.' 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 Integrated Research Limited (ASX:IRI) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Integrated Research

What Is Integrated Research's Debt?

You can click the graphic below for the historical numbers, but it shows that Integrated Research had AU$5.56m of debt in December 2021, down from AU$6.49m, one year before. But it also has AU$14.9m in cash to offset that, meaning it has AU$9.38m net cash.

How Healthy Is Integrated Research's Balance Sheet?

We can see from the most recent balance sheet that Integrated Research had liabilities of AU$29.2m falling due within a year, and liabilities of AU$19.4m due beyond that. On the other hand, it had cash of AU$14.9m and AU$47.8m worth of receivables due within a year. So it can boast AU$14.1m more liquid assets than total liabilities.

This short term liquidity is a sign that Integrated Research could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Integrated Research boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for Integrated Research if management cannot prevent a repeat of the 68% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Integrated Research'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Integrated Research 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. Looking at the most recent three years, Integrated Research recorded free cash flow of 48% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing up

While it is always sensible to investigate a company's debt, in this case Integrated Research has AU$9.38m in net cash and a decent-looking balance sheet. So we don't have any problem with Integrated Research's use of debt. 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. To that end, you should be aware of the 3 warning signs we've spotted with Integrated Research .

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.