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. We note that Avalara, Inc. (NYSE:AVLR) does have debt on its balance sheet. But is this debt a concern to shareholders?
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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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.
What Is Avalara's Debt?
You can click the graphic below for the historical numbers, but it shows that as of December 2021 Avalara had US$961.3m of debt, an increase on none, over one year. But it also has US$1.52b in cash to offset that, meaning it has US$556.6m net cash.
How Strong Is Avalara's Balance Sheet?
The latest balance sheet data shows that Avalara had liabilities of US$567.7m due within a year, and liabilities of US$1.10b falling due after that. Offsetting this, it had US$1.52b in cash and US$114.2m in receivables that were due within 12 months. So its liabilities total US$40.0m more than the combination of its cash and short-term receivables.
Having regard to Avalara's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the US$6.68b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Avalara 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 ultimately the future profitability of the business will decide if Avalara 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.
In the last year Avalara wasn't profitable at an EBIT level, but managed to grow its revenue by 40%, to US$699m. Shareholders probably have their fingers crossed that it can grow its way to profits.
So How Risky Is Avalara?
Although Avalara had an earnings before interest and tax (EBIT) loss over the last twelve months, it generated positive free cash flow of US$11m. So although it is loss-making, it doesn't seem to have too much near-term balance sheet risk, keeping in mind the net cash. One positive is that Avalara is growing revenue apace, which makes it easier to sell a growth story and raise capital if need be. But that doesn't change our opinion that the stock is risky. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 5 warning signs for Avalara (1 shouldn't be ignored!) that you should be aware of before investing here.
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.
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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.