Jasco Electronics Holdings (JSE:JSC) Seems To Be Using A Lot Of 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. We can see that Jasco Electronics Holdings Limited (JSE:JSC) does use debt in its business. But is this debt a concern to shareholders?

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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Jasco Electronics Holdings

What Is Jasco Electronics Holdings's Debt?

You can click the graphic below for the historical numbers, but it shows that Jasco Electronics Holdings had R157.4m of debt in December 2021, down from R346.4m, one year before. However, because it has a cash reserve of R26.0m, its net debt is less, at about R131.5m.

How Healthy Is Jasco Electronics Holdings' Balance Sheet?

The latest balance sheet data shows that Jasco Electronics Holdings had liabilities of R203.6m due within a year, and liabilities of R164.9m falling due after that. Offsetting this, it had R26.0m in cash and R139.5m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by R203.1m.

This deficit casts a shadow over the R95.4m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, Jasco Electronics Holdings would probably need a major re-capitalization if its creditors were to demand repayment.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

While Jasco Electronics Holdings has a quite reasonable net debt to EBITDA multiple of 1.8, its interest cover seems weak, at 0.77. The main reason for this is that it has such high depreciation and amortisation. While companies often boast that these charges are non-cash, most such businesses will therefore require ongoing investment (that is not expensed.) Either way there's no doubt the stock is using meaningful leverage. Notably, Jasco Electronics Holdings made a loss at the EBIT level, last year, but improved that to positive EBIT of R15m in the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Jasco Electronics Holdings'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. During the last year, Jasco Electronics Holdings burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

On the face of it, Jasco Electronics Holdings's conversion of EBIT to free cash flow left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. Having said that, its ability handle its debt, based on its EBITDA, isn't such a worry. Taking into account all the aforementioned factors, it looks like Jasco Electronics Holdings has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Jasco Electronics Holdings has 5 warning signs (and 4 which are concerning) we think you should know about.

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.

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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.