Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk'. 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 Amazon.com, Inc. (NASDAQ:AMZN) does use debt in its business. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
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 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. 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 Amazon.com Carry?
As you can see below, at the end of September 2019, Amazon.com had US$25.3b of debt, up from US$24.7k a year ago. Click the image for more detail. However, it does have US$43.4b in cash offsetting this, leading to net cash of US$18.1b.
A Look At Amazon.com's Liabilities
We can see from the most recent balance sheet that Amazon.com had liabilities of US$72.1b falling due within a year, and liabilities of US$70.5b due beyond that. On the other hand, it had cash of US$43.4b and US$16.6b worth of receivables due within a year. So its liabilities total US$82.6b more than the combination of its cash and short-term receivables.
Since publicly traded Amazon.com shares are worth a very impressive total of US$929.6b, 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, Amazon.com also has more cash than debt, so we're pretty confident it can manage its debt safely.
On top of that, Amazon.com grew its EBIT by 33% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Amazon.com's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Amazon.com has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, Amazon.com actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.
We could understand if investors are concerned about Amazon.com's liabilities, but we can be reassured by the fact it has has net cash of US$18.1b. And it impressed us with free cash flow of US$20b, being 138% of its EBIT. So is Amazon.com's debt a risk? It doesn't seem so to us. Over time, share prices tend to follow earnings per share, so if you're interested in Amazon.com, you may well want to click here to check an interactive graph of its earnings per share history.
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.
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