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.' 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. Importantly, Shopify Inc. (NYSE:SHOP) does carry debt. But the more important question is: how much risk is that debt creating?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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 step when considering a company's debt levels is to consider its cash and debt together.
View our latest analysis for Shopify
As you can see below, Shopify had US$912.7m of debt, at September 2022, which is about the same as the year before. You can click the chart for greater detail. However, its balance sheet shows it holds US$4.94b in cash, so it actually has US$4.03b net cash.
Zooming in on the latest balance sheet data, we can see that Shopify had liabilities of US$905.2m due within 12 months and liabilities of US$1.61b due beyond that. Offsetting these obligations, it had cash of US$4.94b as well as receivables valued at US$460.8m due within 12 months. So it can boast US$2.89b more liquid assets than total liabilities.
This short term liquidity is a sign that Shopify could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Shopify boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Shopify's ability to maintain a healthy balance sheet going forward. 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, Shopify reported revenue of US$5.2b, which is a gain of 25%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.
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 Shopify 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$200m and booked a US$3.2b accounting loss. While this does make the company a bit risky, it's important to remember it has net cash of US$4.03b. That means it could keep spending at its current rate for more than two years. With very solid revenue growth in the last year, Shopify may be on a path to profitability. By investing before those profits, shareholders take on more risk in the hope of bigger rewards. 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 - Shopify has 1 warning sign we think you should be aware of.
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
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