Health Check: How Prudently Does Hydrix (ASX:HYD) Use 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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Hydrix Limited (ASX:HYD) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Hydrix

What Is Hydrix's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Hydrix had AU$2.25m of debt in June 2021, down from AU$6.02m, one year before. But it also has AU$6.65m in cash to offset that, meaning it has AU$4.40m net cash.

A Look At Hydrix's Liabilities

According to the last reported balance sheet, Hydrix had liabilities of AU$8.94m due within 12 months, and liabilities of AU$4.73m due beyond 12 months. Offsetting this, it had AU$6.65m in cash and AU$1.67m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$5.36m.

Hydrix has a market capitalization of AU$22.2m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, Hydrix 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 you can't view debt in total isolation; since Hydrix will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Hydrix had a loss before interest and tax, and actually shrunk its revenue by 41%, to AU$9.3m. To be frank that doesn't bode well.

So How Risky Is Hydrix?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And in the last year Hydrix had an earnings before interest and tax (EBIT) loss, truth be told. Indeed, in that time it burnt through AU$2.4m of cash and made a loss of AU$9.8m. But at least it has AU$4.40m on the balance sheet to spend on growth, near-term. Overall, we'd say the stock is a bit risky, and we're usually very cautious until we see positive free cash flow. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 4 warning signs for Hydrix (1 is concerning) 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.

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.

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