Health Check: How Prudently Does Frequency Therapeutics (NASDAQ:FREQ) Use Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. Importantly, Frequency Therapeutics, Inc. (NASDAQ:FREQ) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Frequency Therapeutics

How Much Debt Does Frequency Therapeutics Carry?

You can click the graphic below for the historical numbers, but it shows that as of March 2021 Frequency Therapeutics had US$15.0m of debt, an increase on none, over one year. But it also has US$194.9m in cash to offset that, meaning it has US$179.9m net cash.

How Healthy Is Frequency Therapeutics' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Frequency Therapeutics had liabilities of US$18.9m due within 12 months and liabilities of US$45.2m due beyond that. On the other hand, it had cash of US$194.9m and US$2.89m worth of receivables due within a year. So it can boast US$133.7m more liquid assets than total liabilities.

This excess liquidity is a great indication that Frequency Therapeutics' balance sheet is almost as strong as Fort Knox. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Frequency Therapeutics has more cash than debt is arguably a good indication that it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Frequency Therapeutics can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Over 12 months, Frequency Therapeutics made a loss at the EBIT level, and saw its revenue drop to US$34m, which is a fall of 5.1%. We would much prefer see growth.

So How Risky Is Frequency Therapeutics?

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 Frequency Therapeutics had an earnings before interest and tax (EBIT) loss, truth be told. Indeed, in that time it burnt through US$68m of cash and made a loss of US$42m. Given it only has net cash of US$179.9m, the company may need to raise more capital if it doesn't reach break-even soon. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. 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. To that end, you should learn about the 4 warning signs we've spotted with Frequency Therapeutics (including 1 which is significant) .

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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