JeanLtd (TWSE:2442) Has A Somewhat Strained Balance Sheet

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Jean Co.,Ltd (TWSE:2442) makes use of debt. But the more important question is: how much risk is that debt creating?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for JeanLtd

What Is JeanLtd's Net Debt?

The chart below, which you can click on for greater detail, shows that JeanLtd had NT$7.55b in debt in March 2024; about the same as the year before. However, it also had NT$2.58b in cash, and so its net debt is NT$4.96b.

How Strong Is JeanLtd's Balance Sheet?

According to the last reported balance sheet, JeanLtd had liabilities of NT$10.6b due within 12 months, and liabilities of NT$1.22b due beyond 12 months. On the other hand, it had cash of NT$2.58b and NT$22.7m worth of receivables due within a year. So it has liabilities totalling NT$9.24b more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of NT$9.54b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

As it happens JeanLtd has a fairly concerning net debt to EBITDA ratio of 10.4 but very strong interest coverage of 1k. This means that unless the company has access to very cheap debt, that interest expense will likely grow in the future. Notably, JeanLtd made a loss at the EBIT level, last year, but improved that to positive EBIT of NT$470m in the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But it is JeanLtd'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Happily for any shareholders, JeanLtd actually produced more free cash flow than EBIT over the last year. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

While JeanLtd's net debt to EBITDA has us nervous. To wit both its interest cover and conversion of EBIT to free cash flow were encouraging signs. We think that JeanLtd's debt does make it a bit risky, after considering the aforementioned data points together. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. 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. Be aware that JeanLtd is showing 4 warning signs in our investment analysis , and 2 of those can't be ignored...

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com