Is Novatti Group (ASX:NOV) Using Too Much Debt?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 Novatti Group Limited (ASX:NOV) does have debt on its balance sheet. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Novatti Group

What Is Novatti Group's Net Debt?

As you can see below, at the end of December 2020, Novatti Group had AU$5.06m of debt, up from AU$3.15m a year ago. Click the image for more detail. But it also has AU$9.35m in cash to offset that, meaning it has AU$4.30m net cash.

How Strong Is Novatti Group's Balance Sheet?

According to the last reported balance sheet, Novatti Group had liabilities of AU$28.7m due within 12 months, and liabilities of AU$2.33m due beyond 12 months. Offsetting these obligations, it had cash of AU$9.35m as well as receivables valued at AU$3.35m due within 12 months. So it has liabilities totalling AU$18.3m more than its cash and near-term receivables, combined.

Given Novatti Group has a market capitalization of AU$92.5m, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, Novatti Group also has more cash than debt, so we're pretty confident it can manage its debt safely. When analysing debt levels, the balance sheet is the obvious place to start. But it is Novatti Group'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, Novatti Group reported revenue of AU$15m, which is a gain of 53%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.

So How Risky Is Novatti Group?

Statistically speaking companies that lose money are riskier than those that make money. And in the last year Novatti Group had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of AU$3.2m and booked a AU$7.3m accounting loss. Given it only has net cash of AU$4.30m, the company may need to raise more capital if it doesn't reach break-even soon. Novatti Group's revenue growth shone bright over the last year, so it may well be in a position to turn a profit in due course. Pre-profit companies are often risky, but they can also offer great rewards. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For example Novatti Group has 4 warning signs (and 1 which doesn't sit too well with us) we think you should know about.

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. 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.
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