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. We can see that Exact Sciences Corporation (NASDAQ:EXAS) does use debt in its business. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest 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.
How Much Debt Does Exact Sciences Carry?
The image below, which you can click on for greater detail, shows that at June 2024 Exact Sciences had debt of US$2.57b, up from US$2.36b in one year. On the flip side, it has US$946.8m in cash leading to net debt of about US$1.62b.
A Look At Exact Sciences' Liabilities
The latest balance sheet data shows that Exact Sciences had liabilities of US$668.6m due within a year, and liabilities of US$2.81b falling due after that. Offsetting this, it had US$946.8m in cash and US$292.2m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$2.24b.
While this might seem like a lot, it is not so bad since Exact Sciences has a huge market capitalization of US$11.1b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Exact Sciences 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.
In the last year Exact Sciences wasn't profitable at an EBIT level, but managed to grow its revenue by 14%, to US$2.6b. That rate of growth is a bit slow for our taste, but it takes all types to make a world.
Caveat Emptor
Importantly, Exact Sciences had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost US$282m at the EBIT level. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through US$15m of cash over the last year. So suffice it to say we do consider the stock to be risky. 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 be aware of the 1 warning sign we've spotted with Exact Sciences .
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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