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Is Atlassian (NASDAQ:TEAM) Using Too Much Debt?

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Simply Wall St
·4 min read
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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 note that Atlassian Corporation Plc (NASDAQ:TEAM) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Atlassian

What Is Atlassian's Net Debt?

The image below, which you can click on for greater detail, shows that Atlassian had debt of US$735.7m at the end of December 2020, a reduction from US$871.2m over a year. However, it does have US$1.79b in cash offsetting this, leading to net cash of US$1.05b.

debt-equity-history-analysis
debt-equity-history-analysis

How Strong Is Atlassian's Balance Sheet?

We can see from the most recent balance sheet that Atlassian had liabilities of US$3.09b falling due within a year, and liabilities of US$306.1m due beyond that. On the other hand, it had cash of US$1.79b and US$160.1m worth of receivables due within a year. So its liabilities total US$1.45b more than the combination of its cash and short-term receivables.

Since publicly traded Atlassian shares are worth a very impressive total of US$60.3b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, Atlassian also has more cash than debt, so we're pretty confident it can manage its debt safely.

Notably, Atlassian made a loss at the EBIT level, last year, but improved that to positive EBIT of US$18m in the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Atlassian can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Atlassian may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last year, Atlassian actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

We could understand if investors are concerned about Atlassian's liabilities, but we can be reassured by the fact it has has net cash of US$1.05b. The cherry on top was that in converted 2,962% of that EBIT to free cash flow, bringing in US$520m. So we are not troubled with Atlassian's debt use. While Atlassian didn't make a statutory profit in the last year, its positive EBIT suggests that profitability might not be far away. Click here to see if its earnings are heading in the right direction, over the medium term.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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.

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