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Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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 note that Alexium International Group Limited (ASX:AJX) does have debt on its balance sheet. But is this debt a concern to shareholders?
When Is Debt Dangerous?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.
What Is Alexium International Group's Net Debt?
As you can see below, at the end of December 2020, Alexium International Group had US$2.85m of debt, up from US$1.88m a year ago. Click the image for more detail. However, its balance sheet shows it holds US$3.84m in cash, so it actually has US$996.1k net cash.
How Strong Is Alexium International Group's Balance Sheet?
According to the last reported balance sheet, Alexium International Group had liabilities of US$1.67m due within 12 months, and liabilities of US$5.63m due beyond 12 months. On the other hand, it had cash of US$3.84m and US$898.9k worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$2.56m.
Of course, Alexium International Group has a market capitalization of US$28.4m, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Alexium International Group 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 it is Alexium International Group'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.
In the last year Alexium International Group had a loss before interest and tax, and actually shrunk its revenue by 2.6%, to US$6.5m. We would much prefer see growth.
So How Risky Is Alexium International Group?
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 Alexium International Group had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of US$2.9m and booked a US$3.5m accounting loss. Given it only has net cash of US$996.1k, the company may need to raise more capital if it doesn't reach break-even soon. Summing up, we're a little skeptical of this one, as it seems fairly risky in the absence of free cashflow. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. We've identified 2 warning signs with Alexium International Group , and understanding them should be part of your investment process.
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.
This article by Simply Wall St is general in nature. 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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