Is Jersey Electricity (LON:JEL) Using Too Much Debt?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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, Jersey Electricity plc (LON:JEL) does carry debt. But is this debt a concern to shareholders?

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. 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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Jersey Electricity

What Is Jersey Electricity's Net Debt?

The chart below, which you can click on for greater detail, shows that Jersey Electricity had UK£30.2m in debt in September 2020; about the same as the year before. But it also has UK£35.5m in cash to offset that, meaning it has UK£5.29m net cash.

How Strong Is Jersey Electricity's Balance Sheet?

The latest balance sheet data shows that Jersey Electricity had liabilities of UK£21.1m due within a year, and liabilities of UK£83.0m falling due after that. On the other hand, it had cash of UK£35.5m and UK£15.0m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by UK£53.6m.

This deficit isn't so bad because Jersey Electricity is worth UK£159.3m, and thus could probably raise enough capital to shore up 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, Jersey Electricity also has more cash than debt, so we're pretty confident it can manage its debt safely.

Jersey Electricity's EBIT was pretty flat over the last year, but that shouldn't be an issue given the it doesn't have a lot of debt. There's no doubt that we learn most about debt from the balance sheet. But it is Jersey Electricity's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Jersey Electricity 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. During the last three years, Jersey Electricity generated free cash flow amounting to a very robust 88% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing up

Although Jersey Electricity's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of UK£5.29m. The cherry on top was that in converted 88% of that EBIT to free cash flow, bringing in UK£16m. So is Jersey Electricity's debt a risk? It doesn't seem so to us. Given Jersey Electricity has a strong balance sheet is profitable and pays a dividend, it would be good to know how fast its dividends are growing, if at all. You can find out instantly by clicking this link.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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